Blog Question: Extra Cost of Reinstatement

Rezoning can create Extra Costs of Reinstatement Issues

I received this interesting question today:

The Adelaide Development Plan has altered zoning throughout the city of  Adelaide via the Capital City Development Plan Amendment. This means any building that has been damaged and or destroyed has to be replaced with a building with a minimum height of 21.5 metres (six to seven stories).

We have a client that has been impacted by this at present they have a 3 story building – in the event of a loss they could not rebuild a 3 story building.

How do you think we handle this??? – they have $500,000 extra cost of reinstatement – the Underwriter will not increase this sub-limit to accommodate. The extra costs involved in re-building (could be $20 million or more) also has an impact on the BI.


Libby” [surname and email provided]

My response follows:

Hi Libby,

Thanks for your note raising a very interesting question.

The concept behind Additional Increase in Cost of Working was designed to cover upgrades of an existing building to cover things like the fact a building could no longer contain asbestos, could not contain timber floors and or open staircases in a multi storey building, needed disabled toilets, required a sprinkler system and the like. This allowed the insured to have the same sort of building but now complying to the current Building Code of Australia, or other statutory authority.

I do not believe it was ever designed to provide a much larger building with many more storeys, more rentable area etc. While technically caused by a Local Authority requirement, the situation you paint is really a betterment issue rather an Extra Cost of Reinstatement issue.

With what you have arranged, the Insured could do a couple of things. Either rebuild elsewhere and put back the same sort of building albeit to current code anywhere else in Australia or use existing funds or borrow funds and rebuild in accordance with the newly established minimum height requirements and the additional rent they would receive over the life of the new building would more than cover the cost of the development.

I am sure your client is scrupulously honest and I am not for one minute suggesting anything else but the moral hazard of allowing an insured to insure a 3 storey building and end up with a 6 or 7 storey building, on the face of it twice as much is just too great.

I have posted your question to my blog and someone may have a solution I am not aware of and if they do I will let you know. (Adam Matteson of Arch commented. Please review the following post).

One extra idea did come to me is to ask for $500,000 as Additional Extra Cost of Reinstatement if the building is insured under a ISR policy. You client will pay an extra premium but the insurer may accept this relatively standard cover often seen as a core endorsement.

As for the Business Interruption cover, your client will require a sufficient Indemnity Period to allow for the planning, financing, building and re-letting (of the same floor area).  The balance of the area would need to be insured under an Advanced Loss of Profits policy.

I hope this is not another case where changes to government legislation pushes the blame onto the insurance industry away from those that made the change. If they disagree with the by-law they need to exercise their democratic right and vote against the decision at the next election.

I hope this helps in your and your client’s understanding.



5 responses to “Blog Question: Extra Cost of Reinstatement”

  1. Allan,

    This issue is one that confronts all of the major cities of Australia, where increased density of land use is being encouraged to improve housing and working use of existing land.

    This is an issue we raise in the ANZIIf ISR masterclass , as there have been contentious claims, where this matter has been litigated .

    Aside from the ability to rebuild elsewhere, the Insured has the ability to claim the indemnity value of the property as a settlement.

    On this issue, there are 2 considerations :

    1. The Mark 4 does not define Indemnity Value. The Mark 5 does define Indemnity Value as ” taking into consideration age , condition and remaining useful life ”

    2. A block of land in this instance is actually worth more as a flat block of land ( due its development potential ). Has the Insured actually suffered a financial loss ?

    It is clear from litigated claims that the improved value of the land does not come into contention as a measure of indemnity , and that the measure of indemnity is clearly the replacement value less “age condition and remaining useful life”

    As an underwriter, though, I believe that this issue can be dealt with at the underwriting phase.

    By having a clear understanding as to the Insured””s intention with the property pre loss, by checking the current zoning as to whether the land is being used for its highest and best use, by checking as to any development applications , and by structuring a basis of settleent that can include the Mark 5 indemnity or market value definitions can all assist in clarity post loss.

    As we show in the ISR masterclass, their are instances where a requested $6m R and R slip was negotiated and agreed at a $500k ROD Sum Insured, saving the Insured money and providing clarity to the Insurer. In that instance, the Insured was a developer and had no intention of rebuilding the current building on this site, or any other.

    As a matter of interest, the Adelaide Council website is one of the best in the country for determining the new allowed building heights , as they differ in various parts of the city. The site is a 3d enabled geosptial site that is easily navigatable , and should be standard viewing for any broker or nderwriter looking at risks in the Adelaide area

  2. Allan says:

    Thanks for your great comment, Adam. Very much appreciated. So it is not lost, I will move it to a posting.

  3. Patrick says:

    Having read this I believed it was extremely informative. I appreciate you spending some time and effort to put this content together. I once again find myself personally spending way too much time both reading and commenting. But so what, it was still worthwhile!

  4. Stephen J says:

    Oh my goodness! Amazing article dude! Thank you so much.

Leave a Reply