Blog question: what should the Section 1 Declared Value be based on under an ISR

I received the following question.

Hi Allan

Most insurers include the estimated cost escalation based on lead times contained with a building valuation as part of the CURRENT building Declared Values.   

Obviously during the reinstatement phase construction costs increase due to the significant length in time required.  Do you think the calculation below is fair and reasonable to be included as a rateable value?      

Cost Escalation A for Lead Time & Reconstruction period

Initial assessment: 1 month

• Design and documentation: 12 months
• Calling tenders and appraisals: 3 months
• Reconstruction period & fit-out: 20 months
• Total: 36 months

36 months escalation at 0.3% per month = 10.8 %

Total time estimated to replace the building

Cost Escalation B for the Policy Lapse period

Between policy renewal dates (worst possible case assumed) 11 months @

0.3% = 3.3% (this is not associated with loss of rent period)

Is this the correct approach under the terms and conditions of the Mark IV ISR policy.

Regards

Jason [email and surname supplied.]

I explained that technically this is not correct in the following reply.

Hi Jason

You are quite correct. The ISR policy was designed that you declare the value of the assets at the start date of the policy.

Any estimate in the escalation of building construction costs from the start date of the policy to cover the policy period and the estimated time to reinstate is not included in the Declared Value but it is in the Limit of Liability along with an allowance for the additional benefits provided by the policy at the target (largest risk) such as removal of debris, and extra cost of reinstatement.

The reason for this is that the drafters of the wording realised that an insured could not accurately predict the replacement value of an item 2 or 3 things out with changes in exchange rates, labour costs, etc. What they required was the value at risk to be correct at the start of the policy for the declared value and then with their social conscious and desire to protect their insureds, they allowed a separate and higher figure for the Limit of Liability.

In exchange insurers sought a fresh declared value at the end of the policy period and then they would charge ½ the premium rate for any increase in declared values between the start of the policy and the end of the policy period under the Premium Adjustments clause. This way they received a fair premium for the risk transferred to them.

Unfortunately we do not see many insureds make the second declaration and this of course leads to under insurance.

There is three advantages of declaring the future estimated values but as I say technically this is not the way the drafters intended.

1. There is very little chance of the co-insurance clause to ever be activated.
2. If the insured fails to increase the declared values on renewal there is some fat built in to still avoid co-insurance.
3. A higher limit of Liability ought to be able to be obtained.

I trust this explains the position.

Regards

Allan