Real estate insurance - five overlooked nuances

9 октября, 2023 о наших новостях

Most people clearly understand the need for insurance when renting or owning real estate. However, a common problem is not knowing what to consider when insuring and what to look for or remember regarding insurance policy conditions when it has been signed and the damage occurs. I’ll highlight five essential nuances often overlooked by companies and individuals when insuring their rented or personal real estate, drawing from my more than 25 years of experience in insurance law.

Underinsuring buildings: insuring for less than the actual rebuilding cost

When insuring buildings, it’s crucial to determine the insurance sum, which represents the maximum amount payable in the event of a claim. This amount should be based on the cost of rebuilding the building, in other words, the construction cost. Building insurance policies are often signed for several years with the same amount, even though construction costs may have risen in the meantime. In other words, a new contract is signed with the exact same amount as in previous years because it seems correct at first glance. Why is this a problem? If the increase in construction costs is not considered when signing or renewing the insurance policy, the insurance may not cover the entire damage. Insurance companies compensate for damage proportionally to the ratio of the insurance amount to the building’s construction value. The simple formula for this calculation is dividing the insurance sum by the total building’s construction value. If this quotient is less than one, it signifies underinsurance. In such a case, the insurance will only cover damage in proportion to that quotient. P.S. To some extent, underinsurance may be allowed in insurance policies, and the specific limit is stated in the policy.

Here’s an illustrative example of how insurance compensation is calculated in the case of underinsurance.

The insurance sum in the contract is 73,000 euros. The actual construction cost of the building is 100,000 euros. Therefore, the building is insured to 73% of its value. So, in the event of damage, the insurance will only compensate for 73%. For instance, if damage occurs in only a part of the building, the insurance must reimburse only 73% of the cost of restoring that part. I’ve encountered cases where the outcome was that the client received only 50% of the damage from the insurance because the proper calculation of the insurance sum was not considered during the insurance process or because they tried to save money on insurance.

Recommendation: To avoid underinsurance, it’s better to opt for a slightly higher insurance sum, even if it results in overinsurance. Determining the correct insurance amount is the policyholder’s responsibility. The insurance premium won’t significantly increase every month, but it will ensure the necessary protection in the event of an insurance claim. 

Overlooking Fire Safety Requirements or Assuming That Insurance Will Pay Regardless of Compliance

Just as traffic rules apply on the road, fire safety requirements apply to real estate. Not adhering to these requirements can lead to severe consequences in the event of a fire. Insurance companies assume that policyholders comply with these requirements. They don’t check or confirm compliance with these requirements when the policy is signed. They expect these requirements to be followed, just like we all expect others to follow the law. For example, if fire safety requirements require the presence of firewalls, they must be in place. Insurance companies calculate insurance premiums based on the size of the risk, and they have the right to assume that the building complies with the fire safety requirements in effect at the time of construction. The purpose of firewalls is to contain the spread of fire within a specific area for a certain period, allowing firefighters to localize the fire within the firewalls.

Recommendation: If fire safety requirements are not met in the insured building, you should inform the insurance company before signing the insurance policy, preferably in writing. However, this may mean having to pay more for insurance.

Taking out insurance doesn’t mean you can stop being cautious

Taking out an insurance policy doesn’t mean the end of the need for careful behavior. The policyholder must act cautiously during the validity of the insurance policy as they would if they didn’t have the insurance policy. Insurance companies and the law expect the insurance risk to stay the same during the insurance policy’s validity.

Recommendation: Don’t assume that “the insurance will cover it.” You must continue to act as carefully as a reasonable person would without an insurance policy.

Liability insurance, along with building insurance, is highly sensible

Insuring buildings and apartments protects your property. However, damage can also begin in your apartment or building and extend to other apartments. Similar situations can occur with water damage. If water or central heating pipes burst, they can cause flooding in adjacent or lower units. In my practice, I’ve seen cases where the water damage originated from an apartment on the upper floors of a high-rise building, and the resulting damage to lower units exceeded the value of the upper apartment itself. Liability insurance is a great help in mitigating such significant risks.

Recommendation: Always consider taking out liability insurance along with your building insurance policy.

The great nuance of liability insurance – coverage of legal expenses

Liability insurance also covers your legal expenses. The advantage of liability insurance is not just that the insurance company compensates for the damage you caused. Often, damage claims require legal assistance to protect your interests. Liability insurance also covers legal expenses necessary to defend against claims made against you. Thus, with liability insurance, you receive coverage for attorney fees in the described scope.

Recommendation: Always consider taking out liability insurance along with your building insurance policy, as it also covers your potential legal expenses. When you can entrust the handling of insurance cases to an attorney and focus on your primary work instead of administrative tasks, the peace of mind and coverage of legal expenses that come with liability insurance may make it worth considering.

In Conclusion

These five nuances are often overlooked when insuring real estate, but as I explained, they are critical. They should be given attention when insuring real estate, as they can have a significant financial impact when damage occurs.

Olavi-Jüri Luik is Partner and Attorney at law at WIDEN Legal and the Head of the Insurance law department.