Best Practices for Reconciling Your Insurance Coverage with Your Building’s Replacement Cost
Do you know if your commercial real estate assets are adequately insured?
Since 2020, replacement costs have outpaced general inflation, as shown by data collected by the Insurance Information Institute. Commercial property replacement costs saw the inflation rate increase to over 16% just last year alone. The commercial price index, in comparison, saw a rate increase of only 8% over the same period. Labor shortages, supply chain issues, and major natural catastrophe events all contributed to increased rebuilding costs.
Repair costs are exceeding policy limits. When that happens, businesses have to decide whether to foot the bill themselves or go without necessary property repairs. Massive increases in rebuilding costs in recent years have many risk managers seeking out strategies for how to determine their building’s replacement costs.
The methods risk managers relied on in the past, where they might have updated values every few years, are no longer sufficient for determining replacement costs in today’s market. Instead, risk managers need to compile recent data from multiple sources and analyze recent claims in similar geographic regions to understand how much it might cost to rebuild in the event of a loss. If they don’t, they might be unprepared for renewal negotiations with their insurance carriers and may be seriously underinsured or face denial of insurance coverage.
In this blog, we will share some best practices for reconciling insurance coverage with your building’s replacement cost.
Data From Multiple Sources Can Validate Your True Replacement Cost
In the past, risk managers typically adjusted their valuations by increasing the building’s value by a set percentage each year. If inflation increased by 3%, so too did the replacement cost estimates they listed on their statement of values (SOV). But today, that won’t cut it.
With replacement costs facing exorbitant and variable increases, the best risk managers know they can’t just increase the values based on an estimated percentage across the board. They need to seek out multiple types of data, including claims and materials costs. The more information a risk manager has, the more accurate their valuations will be.
There are three different types of data risk managers should be looking at when calculating their building’s replacement costs:
Claims information,
Contractor data,
Materials and labor cost surveys.
Data from recent claims on similarly-sized buildings of like materials can give risk managers insight into how much it might cost to rebuild properties in their portfolios. Contractors, too, can share data that can help risk teams understand how rebuilding costs are shifting. This frontline view into expenses can help risk managers estimate their property values more accurately.
In addition to these tools, risk managers should seek out materials and labor cost surveys that detail the reasonable rate of price increase for construction supplies like lumber or steel and how much contractors need to spend on labor in today’s tight talent market. These resources also track how supply chain issues affect the prices of critical materials and services. When risk managers consult these surveys, they get a more nuanced view of how inflation impacts replacement costs.
All these data points can help risk teams get a complete picture of how much it might cost to rebuild should a claim occur. That’s why tools like LineSlip’s True Replacement Cost feature pull data from all of these different sources to help risk managers determine accurate values for their properties. The feature monitors shifts in building materials and labor costs in relation to inflation, allowing risk managers to adjust their insurance coverage as needed.
They can then present this information to their executive leadership to show them that the risk team has validated their building’s replacement costs. That way, everyone can rest easy knowing assets are protected with the proper amount of insurance coverage.
Be Mindful of Variations in Cost By Geographical Region
When it comes to collecting claims information, materials costs, and other forms of data to validate a property’s replacement costs, risk teams need to ensure they’re analyzing information from properties and contractors in a similar geographic region to the one in which they’re operating.
For example, it doesn’t make sense to estimate the costs of rebuilding a property in downtown San Francisco using data from a claim in rural Kansas, even if the buildings have the same square footage and are made of similar materials. Properties in California are exposed to different kinds of perils, and they might cost more to rebuild due to higher costs of living in the area.
Just look at how inflation has affected the two areas. Prices for a variety of goods and services in San Francisco increased by 2.9% over the one-year period between June 2022 and 2023. In the Midwest region, they only increased by just 2.4% over the same period.
That may not seem like a huge difference; however, it adds up quickly when you multiply it across many different construction materials and factor in that these materials already cost more in California before the recent inflationary period. And labor also costs more in regions where there’s a higher cost of living. Construction workers make an average of $57,527 per year in California, according to data from Glassdoor. In Kansas, they make an average of $49,590 a year.
Beyond the fact that materials and labor costs vary from region to region, buildings in different geographic locations are also exposed to different perils. A building with hurricane, wildfire, or earthquake exposures may need to be rebuilt entirely if a claim occurs. A building in an area with less extensive natural catastrophe exposure may need less insurance coverage since they’re not contending with these kinds of major events.
One advantage of the True Replacement Costs feature is that it helps risk managers take these geographic factors into account. Risk managers can use it to analyze regional construction costs, so they know that they’re calculating accurate values for their properties. Armed with a plethora of real-time data and a deep understanding of how prices fluctuate with geography, risk managers can confidently approach renewal negotiations with their carriers.
Historical Data and Carrier Coverage Can Help Insureds Negotiate Better Rates
In recent years, carriers have responded to gaps between a building’s true replacement cost and the amount of insurance coverage it has by increasing rates and adding penalties to policies during renewals. At the beginning of 2023, The Council of Insurance Agents & Brokers’ Quarterly P/C Market Survey found that commercial property premiums jumped by 20.4%.
Risk managers need to show their carriers that they’ve done the work to verify their building’s replacement cost. Only then can carriers feel confident renewing their policy without major rate increases.
It’s important to bring in historical data to document any previous claims against the property and clearly identify what steps risk and operations teams have taken to manage their exposures. A detailed explanation of how they calculated their valuations in the past and how they’ve adjusted their process to account for today’s tough economic conditions can show carriers that insureds are taking explosive increases in replacement costs seriously. Contrasting their new process with historical calculations can prove that risk teams have made serious attempts at properly valuing their property assets.
All of these strategies can help insureds make sure they’re not paying too much for their insurance policies and avoid carrier penalties. Staying on top of replacement cost data and validating your property valuations are key to navigating today’s challenging property insurance market.
LineSlip’s True Replacement Cost
In order to avoid entering renewal negotiations with stale replacement cost data, risk managers will want to seek out a partner like LineSlip. LineSlip’s new True Replacement Cost feature curates data from contractors, adjusters, and material and labor costs surveys, allowing risk teams to compare the values reported on their SOVs with replacement cost data from similar building types and quality in similar regions. This feature enables risk managers to access data from millions of claims and helps them determine whether they’ve purchased enough coverage to protect their assets.