Question on an ISR extension of coverage

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The following question was asked of one of the LMI team who intern asked me to address it.

Hi,

Sorry –  another tech question. 

Could you advise why the Steadfast Wording requires a sub-limit for Unabandoned Undamaged Portion of a Building.  Per the wording, the increase in sale value is regarded as salvage value taken by the insurer?  Does having a sub-limit benefit or is it a disadvantage to the Insured? 

Await your advice

Kind regards,

[name and email withheld]

It is a great question and I thought I would share my reply with readers so that it may help more than just one person. You will see that rather than just give a simple yes or no answer, I did what I always try and do is set out the logic for my answer.

Hi T…

Under the principle of indemnity the insured is to be put back in the same position, as near as money will allow, to the position they would have enjoyed but for the loss.

Since at least the 1960’s property polices were enhanced well beyond that, what I regard as the second principle of general insurance. The first was Reinstatement and Replacement, then Extra Cost of Reinstatement.

Abandoned Undamaged Portion of a Building is yet another extension which is there for the benefit of the Insured. The coverage offered by this endorsement it is not something that, in my experience has come up often in the past. However, with local authorities coming to the realization that poor planning decisions have been made in the past, are ordering that an insured is not able to build back where they once were.

I reproduce the actual wording below:

ABANDONED UNDAMAGED PORTION OF A BUILDING

If any building is Damaged and due to the exercise of statutory powers or delegated legislation or authority by any government department, local government or other statutory Authority, reinstatement of such building is carried out upon another site, then the abandoned undamaged portion of such building shall be deemed to have been destroyed; provided that if the presence of such abandoned undamaged portion of the building increases the sale value of the original site, the increase in sale value shall he regarded as salvage and the amount thereof shall be payable to the Insurer(s) by the Insured upon completion of any sale of the site or shall be deducted from the total amount otherwise payable by the Insurer(s) under this policy, whichever shall occur later. All differences relating to the amount of such increase in site value shall forthwith be referred to the decision of two registered valuers; one to be appointed by each of the parties to this policy. If the two valuers do not agree, their differences shall be referred to the decision of a third valuer, appointed by the President of the Australian Institute of Valuers as an expert, whose decision shall be binding. [Emphasis mine]

The reason is that without this extension of coverage the Insurer only has to reinstate that part of the property which is damaged or destroyed.

The cover was introduced to save the insured having to fund, say, for new foundations to suit the replacement building bearing in mind the Reinstatement and Replacement coverage is generous in that it allows for the Insured to reinstate elsewhere within Australia (assuming it is an Australian wording and situation of loss) and in a manner suitable to the insured.  The exact wording under the Australian Mark IV ISR reads:

“The work of rebuilding, replacing, repairing or restoring as the case may be (which may be carried out upon any other site(s) and in any manner suitable to the requirements of the Insured, but subject to the liability of the Insurer(s) not being thereby increased), must be commenced and carried out with reasonable dispatch, failing which the Insurer(s) shall not be liable to make any payment greater than the indemnity value of the damaged property at the time of the happening of the damage.”

I want to stress that the endorsement only applies if the Insured is forced to relocate ABANDONED UNDAMAGED PORTION OF A BUILDING.

As I said the need for the endorsement is rare, predominately in flood or bush fire prone areas, but if a council or other government body was to buy back the land, they may be including some value for the undamaged building to be fairer to the owner.

To be fair to the Insurer they have to charge a fair premium for the extra risk passed to them by their granting the extension of coverage for Unabandoned Undamaged Portion of a Building. This is done via the use of a sub-limit and like most things in life you get what you pay for.

The point about the value of any salvage going to the insurer is to my mind only fair as to allow the insured to be claiming for something not damaged and then let them earn some cash on top of that is a bit rich. If we go back to that Principle of Indemnity, Lord Justice Brett stated in the 1833 of Castellain v Preston stated:

“The very foundation, in my opinion, of every rule which has been applied to insurance law is this, namely, that the contract of insurance contained in a marine or fire policy is a contract of indemnity, and of indemnity only, and that this contract means that the insured, in the case of a loss against which the policy has been made, shall be fully indemnified, but shall never be more than fully indemnified.”

If the Insured could keep what the endorsement defines as salvage they would be much much more than being fully indemnified.

So, to recap and answer your question, the sub-limit is there to allow the insurer to calculate a fair premium for the risk being transferred to them and to limit the coverage to that amount. In my opinion it is a very valuable coverage for an insured to have as a safety net and it is only fair and reasonable for the insurer to limit the coverage for the risk the insured wishes to have transferred away from them to that insurer. The rate charged like any insurance premium ought in fairness be based on the perceived risk to the Insurer.

I hope this all makes sense and puts your mind at ease.

Regards

Allan

As always, if anyone has a different view or would like to add something please do so in the comments.

I mentioned Indemnity being the second principle of insurance. I only have a few copies of my book, Mannings Six Principles of General Insurance left and I am in the process of completing a new edition. I will let readers know when it will be ready, hopefully in time for Christmas 2024.

I will be running a 4 part training session on the Six Principles in the second half of the year. If you would like to join in or have some of your team participate, please email [email protected]

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