by George Jennings & Kobus van Niekerk

1.Introduction to underinsurance

It is a prerequisite of certain classes of insurance that the insurance values are adequate to match the exposure. In the event of deliberate or inadvertent failure to choose a Sum Insured that at least matches or exceeds the value of the property at risk, Average will apply due to the underinsurance.

2.Basic Average clause

If the property covered hereby shall, at the commencement of any destruction of / or damage to such property by any peril insured against, be collectively of greater value than the Sum Insured thereon, then the Insured shall be considered as being his own insurer for the difference and shall bear a ratable share of the loss accordingly.  Every item, if more than one item, shall be separately subject to this condition.

3.Where did underinsurance and Average originate from?

The history of Average emanates back to the days of marine cargo insurance. Since that time, the Average clause has been modified but when it comes to marine insurance, it is commonly referred to as “general average”.

4.How often do claims present a challenge when it comes to the settlement and the quantum?

As much as 30% to 50% of claims under various policies are impacted by the application of Average.

5.What are the main causes of underinsurance?

The main causes of underinsurance can be attributed to the inadequacy to undertake a thorough review of the Sum Insured of the Property Insured. This review should be conducted at the inception or renewal of the particular insurance policy, if not, at intervals of the currency of the policy.

Policy wordings vary from Insurer to Insurer but it is always important to understand what makes up the Sum Insured of the Property Insured. For example, customs duties, transport costs, professional fees, installation costs and the like may form part of the Insurer’s requirement in the Sum Insured.

6.How can you prevent underinsurance?

The Insured is required to present to the Broker / Insurer a comprehensive up to date inventory of all the Property Insured at inception or at review (renewal) of the policy. An important consideration is to make sure that the Insured declares all the Property Insured which makes up the total Sum Insured.

It is also possible for the Insured to employ the services of a professional valuator who is competent and qualified to prepare an accurate assessment of the Property Insured.

7.Why is there a Condition of Average applied to a policy?

The Condition of Average applies to virtually all material damage policies and is a means of making sure that the Insurer is not compromised when it comes to receiving premiums for the Property Insured. A prime example is having a first loss limitation which in some instances is allowed for in the policy wording. If a policy excludes the Condition of Average, the Insured will then only tend to be insured for a pre-determined maximum limit for any one loss or occurrence. To obtain a commensurate premium in the event of a loss limit policy, the premium must still be calculated on the full value at risk.

Consider the following scenario - your Electronic Equipment total Sum Insured is R50 million but the likelihood of losing all at any one time is so remote (including the spread of the equipment at various premises / locations), that you pick the highest maximum possible loss at R15 million.  The Insurer would then only receive premium for R15 million worth of equipment whilst they are entitled to receive premium on the full total Sum of R50 million.

8.How is Average calculated?

There are a few versions of how Average is calculated and applied, but the most common version is:

Loss Amount x Insured Value / Total Sum Insured.

For example: R50,000 (Loss Amount) x R150,000 (Insured Value) / R250,000 (Insured Value)

= R30,000 (Claim Settlement) before deduction of deductible.

It must be noted that Average can only be applied by an Insurer in respect of underinsurance should they decide to settle the claim on a cash basis. If the Insurer exercises his / her right to reinstate or replace the lost or damaged property, then Average cannot be applied.

9.Talk to your Broker

When it comes to setting the correct Sum Insured, talk to your Broker to obtain sound advice. Your Broker will assist you to avoid the application of Average when it comes to certain classes of risks which are subject to the Condition of Average.

10.Consort has the expertise

At Consort we have a panel of experienced Underwriters who will be able to assist with queries about Average and underinsurance.

Please contact your Broker directly, who will then approach Consort to assist with your requirements.

Consort Technical Underwriting Managers