FOLLIES OF UNDERINSURANCE
Insurance is a “sleep easy” mechanism that allows businesses and ordinary citizens to
transfer their risk during a specific time-frame in exchange for a monetary consideration
known as a premium. When this period ends, the insurer can retain this premium without
having to make a payout if no claim is made. Many policyholders believe they have
thrown away their money, and there is nothing to show.
The true picture is that there are others who, for the payment of a premium, are a mere fraction of the claim
payout they have collected from their insurer and can avoid financial ruin. Insurance is a pooling of premiums
from which claims are paid, and the principle is that many persons pay a small amount of money for the
unfortunate few to collect; thereby, the burden of losses is spread among the many.
This concept of pooling, risk assessment, risk management, and risk transfer is an everyday occurrence, from
crossing the road or overtaking a vehicle to avoiding getting into an accident or locking up your valuables when
you leave the house. The insurance industry allows you to transfer some risks from you to them for a premium.
Insurance therefore becomes an indispensable part of protecting one’s assets or property from many perils such
like fire, earthquakes, floods and hurricanes, especially at a time when the country faces real risks of climate
change and a annual hurricane season.
We can no longer make the case that T&T is outside the hurricane belt, in the recent past we have had some
close shaves. Weather patterns have become more unpredictable as a result of climate change and we are
seeing evidence of this in the frequency and growing severity of local flooding.
One only had to observe the floods in central Trinidad and the huge 7.4 earthquake to see
natural disasters can and will eventually occur. The 2017 hurricane season was historic in
terms of the most named storms, highest ever recorded wind speeds, most hurricane days in
any season and most hurricane days in any month, most rainfall in any storm, fast-moving
storm and, of course, hurricane Maria rewrote the book on possible countrywide damage
estimates for both regional governments and the reinsurance industry as a whole with some
Caribbean islands sustaining damage up to 90% of all buildings.
Even the most skeptical can't avoid the realization that weather related risks have risen significantly and take
appropriate steps to mitigate and transfer risks to the Insurers.
One of the biggest challenges facing the insurance industry is the global under-insurance level. Insurance
companies would apply the Average Condition as contained within the policy contract whenever there is a claim.
It simply means businesses and homeowners must insure for replacement and rebuilding costs. Rebuilding costs
have risen sharply on account of the inputs in construction from steel, cement, aggregates, and labor due to post
covid disruption and inflationary pressures.
This is evidenced by the steady increases in the cost of construction throughout the country. If building costs have
risen, the owners of those buildings would be increasing their insured values. This is simply not the case with
policyholders continuing to renew their policies at the same values for many years or minimal increases that do
not reflect the reality for reconstruction. How, then, can an insurance company protect itself in a climate of
increased building costs? It would be unreasonable to expect a full claim settlement when a significant degree of
underinsurance is in play.
Policyholders become painfully aware of the consequence of underinsurance when a loss is
suffered, and the insurers apply the Average Condition, leaving them out of pocket for the
proportion to which the property was underinsured. Simply put, if the replacement/ rebuilding
cost of the property is greater than the insured value, the difference will be borne by the
policyholder.
SUM INSURED - $100,000.00
REPLACEMENT VALUE - $200,000.00
UNDERINSURED - $100,000.00 or 50%
LOSS SUFFERED - $50,000.00
INSURERS SETTLEMENT AFTER 50% AVERAGE APPLIED - $25,000.
POLICYHOLDER OUT OF POCKET DUE TO UNDERINSURANCE - $25,000
The insurance industry recognizes upward pressures on values during a policy year and usually regards
policyholders as adequately insured if they insure for at least 85% of replacement value. This provides a
margin of 15% in favor of you, the insured, for which he pays no additional premium. In short, if the insured value
exceeds 85% but the difference is within the 15% leeway of the rebuilding costs, then the insurance company will
not invoke the average Condition.
However, at the time of the loss, the financial burden to reinstate a 20% or 30% under-insured property far
outweighs the savings in premium enjoyed by under-insuring. Any perceived cost/benefit is unjustifiable at all
times. It must also be pointed out that in respect of hurricane or earthquake losses, before any claim is paid, the
policyholder is responsible for a deductible of 2% of the sum insured. For example, if a property is insured for
$500,000, the policyholder bears the first $10,000. This compulsory excess is low compared with some other
Caribbean islands, where the catastrophe exposure is higher- in some cases, as high as 5% of the sum insured.
The burden of the deductible and under-insurance have been unpleasant for thousands of homeowners following
large CAT events.
For those policyholders who are underinsured, it is not only the policy excess that must be met out your own
pocket but the percentage of underinsurance resulting from the application of the Average Condition that often
leads to policy holders going into new debt to cover the uninsured cost of the repair. All policyholders would do
well to understand the implications of their insurance contracts and how underinsurance will affect them when
they have a claim.
Admittedly, underinsurance is not unique to Trinidad and Tobago but a world-wide issue but
there is a view that in the continuing rise in rebuilding costs the level of underinsurance is
reaching alarming proportions. You are now well advised to take action or regret any inaction
later.