What is the right property limit? Not an easy question to answer, is it?

by Curtis M. Pearsall, CPCU, CPIA
Special Consultant to the Utica National E&O Program

As I travel around the country and talk to agents at conferences and seminars, resolving the “right” property limit appears to be one of the top 5 issues agents face today. Whether for the building or contents coverage, it seems to be more challenging than one may think. The focus of this article is the commercial property exposure, and the problem is that the limit on the policy is not an area of concern until there is a claim – but by then, it’s too late to do anything about it.

Many Approaches
There are many approaches to securing a property limit. In no particular order:

• Using the company approximator tool. This could be one they designed themselves or one of the more common industry tools such as MSB. Using one of these is a good starting point and proper use should result in a quality output. However, incorrect inputs will result in questionable outputs. Ensuring that you have full and correct information is key. Without this, errors could occur. Whether it’s inputting an inaccurate square footage, picking potentially incorrect construction components or assessing the “quality” of the construction, this can lead to an output drastically off the “correct mark.” Just because you used a company “approximator” does not guarantee the carrier will honor that number. Will they turn their back on you? It’s happened before!
  
  
• Using the limit on the current policy. The problem with this approach is that it assumes the correct calculation was done by the prior agent.
  
  
• Asking the customer what limit they want. While there are some scenarios where this is not advisable, I believe commercial clients are more sophisticated regarding rebuilding costs than homeowners clients. Thus, this approach has a degree of merit. Assist them in understanding the terms unique to property coverage like co-insurance, Actual Cash Value, Replacement Cost, Agreed Amount, etc. Are there some agents/CSRs on your team that might struggle with explaining what these terms mean and what the impact could be in the event of a claim? It’s not a bad idea to include examples in your proposal on how these terms work. Relying on the customer to provide a limit seems like the agent may be shirking their responsibilities. At the time of the claim, if the customer does not receive full compensation, my guess is that they will not be very happy. Whether this results in a claim against you is difficult to say, but losing the customer is probably a given.
  
  
• Requesting that the customer secures a professional appraisal. This is probably the best overall approach. These cost money, but there is no doubt that they are worth it.
  

• Pulling the information from various Web sites. I do not suggest this approach as there is no guarantee that these sites reflect current and accurate information.

• Using what you think is accurate, with the presumption that the carrier will inspect it and catch your “errors.” This is not a recommended approach. Every carrier has its own guidelines on what they will inspect and there are very few carriers that inspect every location. In the event of a claim against your agency due to an error in the property limit, a defense used by most E&O carriers would involve bringing the carrier in and stating that they had either inspected the location or had a chance to inspect it, and that they should have advised your agency of a problem. This does have some merit, but a stronger focus on trying to calculate the “right number” upfront is preferred.

 A “Moving Target”
For business new to your agency, take the time to secure the necessary data to perform the calculation. This should involve a visit to the location by the producer/agency loss control specialist to help secure the correct information. Take measurements and ask the necessary questions regarding construction. This will enable you to more accurately determine the Insurance to Value. DO NOT simply pull up the key input information from the current policy as this might not be accurate and will probably result in a questionable output due to less-than-quality inputs.

As you can imagine, there have been a significant number of E&O claims dealing with the policy property limits. For example:
The client owned a bowling alley that burned to the ground and claimed the agent procured insufficient limits, resulting in a shortfall of $3 million. The agent stated that the client provided the figures for the building, and further said the client was advised they should consider using an appraisal service. The client said the agent affirmed the coverage amount was the proper coverage. The agent denied this. In that particular state, there is no duty to inform a client how much coverage they should have. The client made the argument that the agent assumed a duty (regarding limits) when he told the client the coverage was sufficient. This was a classic “word vs. word” scenario, with nothing in writing to back-up either side. The damages were also in dispute, as the client was claiming replacement cost value (RCV), even though the vacant lot was for sale. The claim eventually settled for $1 million.

Lesson to be learned: Be careful how you respond if the customer asks you if their property limit is sufficient. In the event of an underlying claim where it is resolved that the limits were inadequate, the client will allege they relied on your advice to their detriment.

Calculating the right property amount is somewhat of a “moving target.” Secure as much of the correct information as possible. The time you spend up front may just save you time later if you are hit with an E&O claim.