By Cedric E. Stephens, Contributor
Question: My house was damaged by Hurricane Ivan. A building society has a small mortgage loan on it. They chose an insurer and covered it for $7 million. I did not receive the policy until November 9.
The estimate for fixing the house was $2.7 million. The insurers offered me only $485,000. That cannot buy cornmeal to feed the workers who will repair the house! They said that my house was underinsured. Since I did not insure it or choose the insurer I cannot be responsible for underinsurance. The pirates are back to rob I! Can you help to solve my problem?
- sylvz50@aol.com
Answer: I am very sorry to learn about your problem. If it is any consolation, you are not alone. There are hundreds, perhaps thousands of persons, in Jamaica, other parts of the Caribbean and North America who are facing problems similar to yours. These difficulties are in part due to last year's very active hurricane season. Sadly, those buyers are only now learning things about insurance which they should have known before. While persons in the industry must share some of the blame, consumers who avoided homework also contributed.
READ DOCUMENTS BEFORE SIGNING
Reading documents before signing them is one type of homework. If you had done this before you signed the mortgage loan agreement, you would probably have a better understanding of the situation. Mortgage contracts usually say who is responsible for arranging insurance, the type and the amount of coverage. The typical insurance clause places the duty to insure squarely on the mortgagor (borrower).
Lenders also require borrowers to provide valuations when properties are pledged as security. Did the valuation provide an estimate of value for insurance purposes? Was the insured value of your house similar to the amount in the valuation?
The root cause of your problem was underinsurance. Your house was insured for slightly less than one-quarter of its replacement cost. It was insured for $7 million. The cost of rebuilding it was estimated by your insurers at nearly $30 million according to my calculations. Insurers appear to be saying that your sum insured should have been near the latter amount, not the former. This is one reason why your claim for $2.7 million was reduced. Insurers applied the average clause. This is a standard feature of all policies that insure houses and their contents. I figure that the clause reduced your claim by $2,075,000.
AVERAGE CLAUSE
All insurers use the average clause to penalise buyers who underinsure. In a response to another question on February 2, 2005, I wrote: "The theory behind it (the clause) is not rocket science. Premium rates assume that the sums insured chosen by consumers represent full value. In practice, this is seldom the case.
As a result, buyers pay less in premium than they would have paid had they insured for full value. Underinsurance is unfair to those who insure for the correct (or full) values. The clause seeks to promote equity among all three groups."
Your claim was also reduced by a deductible (or excess) of $140,000. This is because all policies in Jamaica (and elsewhere) that cover hurricane are subject to a deductible clause. Insurers stopped providing 100 per cent coverage against losses arising from natural disasters like hurricanes and earthquakes over 20 years ago.
When Hurricane Gilbert hit, the deductible was $200. After that, it was changed to represent two percent of the sum insured. In other words, insurers now
provide coverage for 98 per cent of losses, while buyers assume 2 per cent.
Two standard policy provisions found in household policies in Jamaica were applied by insurers. They reduced your claim by $2,215,000 or 82 percent. By my calculations, this is the reason why you were offered only $485,000.
I have not seen your policy. I am therefore uncertain if that offer is consistent with your policy. Consult an attorney. If this does not produce the desired result, find out if the $30 million price tag for rebuilding your house is too high. You could be in for some more money if you can show this.
Finally, I like your pirate metaphor. Please remember, however, that it is your duty to protect yourself from danger. Getting information and advice on a timely basis another kind of homework is one way to save money and hassles.
Cedric E. Stephens provides independent information and advice about the management
of risks and insurance. If you need free information or counsel to help you solve a problem, write to The Financial Editor
or contact Mr. Stephens directly at aegis@cwjamaica.com
