RISK PROBLEMS/SOLUTIONS

PROPERTY ENDORSEMENTS

LeRoy H. Utschig, CPCU, ARM

rrestaurant Several property endorsements can be used to modify coverage in order to better fit a particular insured's loss exposures. The thrust of this article will be to identify some of the coverage modifications and situations where these endorsements might be used. All of the coverage endorsements used in this article will be commercial property forms developed and filed by the Insurance Services Office (ISO). Most insurers using ISO forms typically will be filed to use all of the ISO forms for that line of business. In other words, if an insurer is using ISO commercial property forms, it will be filed to use any of the forms mentioned in this article.

Property endorsements are used for a wide variety of purposes. We will use examples to illustrate the endorsements listed below in bold face.

Alcohol Tax Exclusion

Within two days of a fire at a high-class restaurant noted for its wine collection, you see several men at the site using axes and light sledge hammers to break the hundreds of unopened wine bottles. Because the wine has been in a fire, the state health department has condemned it and all of the wine bottles have to be broken. Both federal and state alcohol tax officials oversee this process. The tax staff keeps track of the number of unopened bottles that are being broken. Their reason for this is quite simple. Since these bottles have not been opened, the restaurant does not owe any tax on them. Alcohol taxes are owed only on the bottles that already have been opened.

Because the restaurant owner does not owe for taxes on the unopened bottles, no insurance payment will be made for the taxes. Without adding an endorsement, the insured could be in the position, to satisfy coinsurance values, of needing an amount of insurance high enough to cover the taxes on all of the unopened bottles yet would be unable to receive payment for the taxes.

An insured can have its contents program set up so that the taxes on the alcohol are not covered. Adding Form 9910, Alcoholic Beverages Tax Exclusion, eliminates coverage for the taxes on alcohol. By adding the endorsement, the insured reduces the amount of contents insurance that it needs to buy. Using this endorsement may make sense for liquor stores and some restaurants that have large amounts of liquor.

Antennas

Last year at a seminar I was conducting, the risk manager for a county learned that radio and TV antennas are not automatically covered by a property policy. So, while she had many millions of dollars worth of property insurance covering county-owned buildings (more than 100 buildings) and their contents, antennas were not covered. About 10 years prior to this, the county had purchased an antenna for $10,000 from a business which no longer needed it. This is a sum that the county could self-insure. However, the antenna now was worth $1 million! After my seminar the risk manager placed coverage for $1 million on the antenna using Form CP 14 50, Radio or Television Antenna.

Signs

Commercial property coverage provides very limited coverage on outdoor signs. There is a $1,000 limit for each sign that is attached to a building. If the commercial property form's $1,000 limit per attached outdoor sign is not adequate, the limit can be changed by using Additional Building Property Form, CP 1415. Besides changing the attached sign limit, Form CP 1415 can be used to make other modifications to the building coverage. Typically, this form is used to add additional building items to the property form.

Detached signs are not insured for the perils such as vehicles damage, vandalism and windstorm that commonly damage them. A specific property endorsement can be used to cover detached signs at the premises. This endorsement will provide specific limit(s) per sign, and it also makes all of the perils covered by the policy available for damage to a detached sign. Outside Signs, Form CP 1440, will provide coverage on detached signs at the insured's location.

Property Not Covered

The commercial property coverage form has a list about a half-page long of property that is not covered. Normally this is okay since many insureds do not have a loss exposure for any of the excluded property items. There are times, however, when an insured has an exposure for an item(s) listed under excluded property. Let's return to the county risk manager discussed earlier. At the same seminar, she was surprised to learn that bridges were not covered by the property form. As it turns out, there were several dozen wooden bridges in the various parks in the county. This was a substantial uninsured property exposure. By using Additional Covered Property, Form CP 1410, she was able to provide coverage on these bridges. Some readers might think that insuring the bridges is not good risk management practice. If the rate for bridges were high, this would be true. However, at the rate she had of $.03 per $100 of value, it made good sense. While an example of a bridge was used, there are literally several dozen categories of excluded property that you may want to insure for a particular insured.

Alarm Warranty

Let's imagine a business called Local Clothing Store, Inc. (LCS). It has an alarm system. Thieves break in and steal many thousands of dollars worth of merchandise. Shortly after the loss, the adjuster tells the LCS owners that they do not have any theft coverage. The reason for the declination is that LCS' alarm system is not the same one described on the policy. Form CP 1211, Burglary & Robbery Protection Systems, is attached to the property policy and it is on this form that a description of Local Clothing Store's alarm system is typed. This form is an affirmative and promissory warranty. In other words, the insured states that it has a particular type of an alarm system and will have the same system during the period of coverage. If there is a theft loss and, at the time of the loss, the insured does not have the same kind of alarm system as shown in the policy, there is no coverage!

Some 20 different kinds of alarm systems are available to an insured. Local Clothing Store received a rate credit based upon a particular alarm system's being operative. The alarm company that installs and services the client will know exactly what alarm rating the client has. Alarm companies give a certificate to the insured specifying the kind of alarm system the insured has. My recommendation is to give a copy of that alarm system certificate to the insurer. This will reduce the chance that the alarm the insured actually has and the one described in the policy are not be the same.

Spoilage

Let's say severe weather knocks down power lines, and it is several days before the power supply can be made operative again. Because of the power outage, Supermarket, Ltd., has to throw away a large amount of spoiled food. Or suppose that one of the refrigeration units at Local Grocery Store springs a leak. Gas leaks out of a small pipe and, as a result, all the food in the refrigerators and freezers is ruined.

Neither Supermarket, Ltd., nor Local Grocery Store is covered for its losses by the commercial property coverage form. Their losses could have been covered by attaching Form 0440, Spoilage Coverage. There are several options on this form. Coverage can be provided for losses caused by power outage. This power outage coverage applies regardless of whether the damage to the electrical supply happens on or off of the insured's premises. Other options of the form are refrigeration breakdown or contamination and a selling price valuation clause, which will, in essence, cover the insured's profit margin on the damaged items. A refrigeration maintenance agreement is another optional feature of the spoilage coverage endorsement.

An insured can buy any or all of the features of the spoilage coverage form. My recommendation is always to use the power outage and breakdown or contamination features. Profits insurance is a nice coverage if your underwriter(s) will give you this feature. Were it my account, I would never use the refrigeration maintenance agreement. The refrigeration maintenance clause requires the insured to have a contract with an outside firm that will check and maintain the insured's refrigeration and freezer equipment. There can be some credit due to activating this clause. However, if this clause is activated and the insured discontinues the maintenance service, coverage is suspended, i.e., no coverage for a spoilage loss.

Functional Replacement Cost

Let's say a small town is revamping its downtown district. Decades ago, the area had been a thriving hub of commerce for the surrounding area. Over the years, these buildings and the area were not maintained so shoppers started to go to shopping centers located on the outskirts of town. Now the downtown area is making a serious effort to regain its former status as the commercial hub of the area.

The owners of Computers Limited like the idea of the downtown rejuvenation and decide to locate in the old downtown area. They buy an old, unoccupied building in the downtown. When they go to obtain insurance for the building, they face a problem. The replacement cost, actual cash value and market value of the building are substantially different. Market value is $50,000, actual cash value $200,000 and replacement cost $400,000. Which value should be used?

Neither the insured nor the underwriter wants to insure the property based upon the $400,000 replacement cost value. They consider using the actual cash value. If they use an 80% coinsurance clause, the insured will need to carry $160,000 of insurance, more than three times what the insured had paid for the building. The underwriter is not comfortable with this, and the owners of Computers Limited are even more concerned. They fear that if there were a fire and the building was insured for $160,000, the insurance company would accuse them of arson.

Besides the valuation issue, there also is the loss potential due to the operation of building laws or codes. This is an older building so if it were damaged, the building codes would require some very expensive updating of the structure. The possibility exists that they might not be allowed to rebuild at that site.

Functional Building Valuation, Form CP 0438, can be used in this type of situation because it addresses these issues and others involved with insuring older buildings where there is a significant difference in value between market value, actual cash value and replacement cost. When using this form, the policy limit is the market value of the property. There is no coinsurance clause, so there need be no concern regarding a coinsurance penalty. Loss settlement can be any of several settlement options. Obviously, the insurer will pick the least expensive settlement.

The policy limit is one of the settlement options. Another is to rebuild at the site using less expensive construction methods while maintaining the same functionality. It also is possible to replace the damaged structure by buying a similar structure. This coverage feature is activated by the operation of building ordinance(s).

Complete ordinance or law coverage is included in Functional Building Valuation, Form CP 0438. Coverage is provided for the value of the undamaged part of the structure that must be torn down due to the operation of the building ordinance(s). Demolition costs, the cost of tearing down the undamaged part of the structure, is included. Sometimes the building can be repaired or rebuilt by adding features so that it will comply with the building codes. This is also covered.

Power and Communication Lines

Manufacturing, Inc., has an elaborate process for making its product in which each unit produced has to be in an oven for 48 hours. The temperature tolerance for the process is a plus or minus two degrees. After an ice storm, the power lines are down for several days. As a result, the oven at Manufacturing, Inc., cools off more than the allowable two degrees. Many thousands of dollars worth of work in process is ruined and has to be thrown away. Their insurer tells them that there is no coverage for the loss.

Another business, Accounting Services, Ltd., has an elaborate setup of interconnected personal computers. The same ice storm that affects Manufacturing, Inc., also knocks out the computers at Accounting Services, Ltd. Upon presenting the loss to their insurer, the owners are told that their computer policy provides coverage for power interruption only if the interruption happens on their premises.

A nearby pizza restaurant does about 80% of its business with customers who phone in their orders and pick up the pizzas. The main telephone switching station is located near the bottom of a small hill. As a result of the same ice storm that affects the accounting firm and the manufacturer, a semi-truck hauling ammonium nitrate loses control and hits the telephone switching station. Fortunately, the location of this accident is far from town and everyone else. The exploding ammonium nitrate totally destroys the switching station and, for nearly a mile in all directions, telephone lines. Upon presenting its business interruption claim, the pizza restaurant is told that it doesn't have any loss coverage because the damaged telephone lines are not on its premises.

In each of the three claim scenarios just given, the loss was a result of damage to either a power transmission line or a communications line. These losses could have been covered if the insured had used Form CP 0419, Off-Premises Overhead Transmission Lines (Direct Damage and Time Element).

Summary

This is a recap of the points brought out in this article:

* Alcohol taxes can be excluded, thereby reducing the amount of insurance needed.

* Outdoor signs can be insured for all perils insured on the contract.

* Radio and TV antennas are also insurable for all perils covered by the property policy.

* If an insured is receiving credit for an alarm system, the system actually being used must be identical with the alarm described in the policy.

* It is possible to provide coverage for building items that otherwise would be excluded.

* Spoilage coverage due to refrigeration breakdown, contamination or power outage is an option.

* Functional building valuation insures a building at market value, has no coinsurance and includes coverage for the operation of building laws.

* Direct damage and time element losses that result from power and telephone lines damage can be covered. *

H8E62060 The author

LeRoy H. Utschig, CPCU, ARM, is a Wisconsin-based insurance educator, consultant and expert witness.