You are insured and sustained a fire loss. The township has now told you to demolish the damaged and undamaged portions of your building, and when you re-build make sure the building is fully sprinklered. How will you pay for these additional costs?
“The additional costs to comply with an ordinance due to the loss can be substantial, such as the loss of value of an undamaged portion of the building, demolition costs and the additional costs to reconstruct a building to comply with the ordinance,” says Phil Coyne, vice president at ECBM.
Smart Business spoke with Coyne about how building ordinance or law coverage would fill this gap in your standard property insurance policy.
What is ordinance or law coverage?
Standard property ‘cause of loss’ forms have a coverage exclusion for loss or damages that occur as a direct result of enforcement of any law or ordinance regarding construction, use or repair of the property, which includes demolition. Three coverages are available to address this exclusion under the ordinance or law coverage of your property loss form:
- Coverage A — Loss to the undamaged portion of the building. The limit should be included in the building limit.
- Coverage B — Demolition coverage, the cost to demolish and clear the building. The amount of coverage should be determined.
- Coverage C — Increased cost of construction, which covers the additional costs to comply with the ordinance or law. Limits should be determined.
In some cases, Coverage B and C are combined under one limit.
Why is ordinance coverage necessary?
Each state, county, township and municipality chooses to adopt and amend national codes, such as the National Fire Protection Association’s Fire Code, according to their needs and concerns. It can be an ever-changing landscape, and many times older buildings are grandfathered or exempt from these codes until a loss occurs.
The coverage should be on every insured’s wish list. It’s probably most critical for buildings that are older, or have older portions, and may have grandfathered codes or regulations for square footage and density. Many lenders have a requirement for this coverage in mortgage agreements.
What triggers the coverage?
There has to be a covered cause of loss that results in the application of a building ordinance. For instance, in 1990 a city ordinance said every new building in excess of three stories had to be sprinklered. Your building is four stories and built in 1985, so the ordinance doesn’t apply. However, the ordinance also might say if 50 percent of an older building is damaged, the entire building has to be demolished and rebuilt. If, after a large fire, you must demolish the building and put in a sprinkler system, this triggers your ordinance or law coverage.
Where might this coverage not apply?
The ordinance or law coverage will not apply if an insured was required to comply with an ordinance and chose not to. Let’s say, a township requires buildings with four or more apartment units to have hardwired smoke detectors and you decided not to install them. If you chose not to install them and then the building sustains a covered loss, the coverage won’t apply.
The three ordinance coverages all have to do with direct loss to the building or property. There’s no provision for the loss of business income. Standard business income policies exclude coverage for the increased period of restoration due to the enforcement of laws or ordinances. Therefore, you would need to endorse your policy to pick up coverage for this increased time.
Also, anything excluded from the policy would not be covered, such as flood loss. Every building ordinance and business income policy excludes any costs regarding pollution or mold and fungi.
What should you consider when buying this coverage?
Look at the current value on your building(s) and what coverage you get under your policy form because each insurance company adapts it differently. Have a thorough discussion with your broker regarding what coverage you think you need and what you can actually get. The insurance company may limit the amount of coverage, based on your premium and portfolio size.
Phil Coyne is a vice president at ECBM. Reach him at (610) 668-7100 or email@example.com.
For more information about risk management, visit ECBM's blog.
Insights Risk Management is brought to you by ECBM
How much insurance should you carry for your business’s property?
It’s always a tricky question, filled with uncertainty and with several variables to consider. On the one hand, purchasing insurance limits that are high enough to make you feel comfortable can be quite costly. On the other hand, if your business property is hit with a large loss, you want to know that it will be protected.
“The goal is to make sure that if your company is faced with a loss, you have an adequate limit in place to cover that loss,” says Nancy Hamilton, an account executive with ECBM Insurance Brokers and Consultants.
Even after you have examined all the angles and found a limit you can afford that protects what you need it to protect, you must stay vigilant, because what may be an adequate limit today may not be enough in the future.
Smart Business spoke with Hamilton about how to choose an adequate insurance limit to cover your business property.
Why is it important for companies to choose an adequate limit to cover their business’s property?
In the event of a loss, you want to have an adequate limit to cover the loss. You want to have sufficient coverage and limits to be able to resume operations as quickly as possible. You want to be able to have your business back in the same position as prior to the loss. Many companies do not have the cash reserves readily available to cover all of the costs associated with a loss.
If you currently have a loan, or are considering one in the future, that is another reason to have an adequate limit in place. Many loan documents require businesses to show proof of proper coverage and limits in order to meet the loan requirements.
How can companies determine an adequate limit for their specific property?
Proper property valuation is critical in determining an adequate limit. There are various tools that can be used to calculate the value of the property to be insured, such as original cost of construction with adjustments for inflation, current construction costs and real estate appraisals.
There are also replacement cost estimators that provide important calculations to help businesses determine their valuation. These calculations are based on the square footage of the building and the building’s construction, including the types of materials used in the construction and type of building such as a commercial office building, manufacturing building, industrial building, etc.
Business income worksheets are used to calculate or estimate your organization’s exposure to a business income loss for the purpose of establishing your limit.
How does a business’s geographical area affect property limits?
Construction costs can vary depending on the geographic area of your business. For example, construction material may be readily available in some areas. However, during a major catastrophe, constructions materials may be in high demand, which can drive up costs significantly. A shortage of supplies in your area may extend the length of time that you are out of business.
How is property valuation determined, and what factors are used?
The value of your business assets needs to be considered. That includes your building, if owned, your business and personal property, as well as any potential loss of income, continuing business expenses and additional expenses you may incur after a loss.
You need to consider how long it will take for your business to get back up and running at the same level as prior to a loss.
What time frame should be considered when determining loss of income?
You need to consider your worst-case scenario as to the length of time to be back in business. Items to consider are type of loss, extent of loss, and supply and demand for labor and materials. The longer it takes for your business to get back up and running, the more costs you are going to have associated with the claim.
How can companies with multiple locations determine an adequate limit for their properties?
Companies with multiple locations can use one blanket limit or loss limit to cover all locations.
There are several factors to consider when determining an adequate limit for multiple locations. Are your locations in close proximity of each other? If you have a large concentration of locations in the same geographical area, you could have a significant impact from a single event. However, if your locations are spread out, then the risk of a single event impacting multiple locations is not as likely.
Establishing an accurate value for each location will help you determine the maximum possible and probable loss. Once the value of each location is determined, you can select a blanket limit or loss limit to cover all locations.
How often should a company have its locations evaluated?
It is recommended that the valuation of a business’s locations be reviewed at least on an annual basis. Some factors can change over the course of a year, and those changes need to be reflected in a new limit. Inflation and construction costs, in particular, can have a huge impact on the valuation of a business.
Nancy Hamilton is an account executive with ECBM Insurance Brokers and Consultants. Reach her at (610) 668-7100, ext. 1263, or firstname.lastname@example.org.