Tenants and landlords view improvements
and betterments coverage differently
By LeRoy H. Utschig, CPCU, ARM
A working definition of improvements and betterments is anything that a tenant attaches to the landlord's real estate that will become a permanent part of that real estate. A tenant attaches something to a building. When the tenant vacates the premises, the item(s) will remain attached to the building. Obviously, this is not the ultimate definition. Laws and court cases in various jurisdictions modify the broad scope definition given here. As usual, fictitious claims examples will illustrate those points.
Building Owner, Inc., constructed a new building valued at $1 million and lined up a tenant to occupy the premises as soon as the construction was completed. Tenant One, LLC, occupied the premises and proceeded to put in $750,000 of improvements and betterments. Some of what the tenant installed included flooring, light fixtures and wall coverings.
About six months after Tenant One had moved in, a major windstorm damaged the building and business personal property. Building Owner (BOI) presented a claim for $1 million for the damage to the building. He did not present a claim for damage to the improvements and betterments that had been installed by Tenant One.
BOI was very surprised when the adjuster presented a loss settlement that applied a substantial coinsurance penalty. BOI asked for an explanation. The adjuster explained that the value of the improvements and betterments accrued to the building value. Before the tenant installed improvements and betterments, the building was worth $1,000,000. Due to the installation of the improvements and betterments, the building was now worth $1,750,000. The coinsurance penalty was for over 40% of the loss.
The lease between Building Owner and Tenant One (TOL) did not address the issue of who was responsible for the damaged improvements and betterments.
Building Owner could have avoided the coinsurance penalty by having attached to his policy an endorsement that would exclude coverage for the improvements and betterments. There is no premium charge for this form.
Landlord's view, number two
Offices, Ltd., owned an office building valued at $4 million, and the landlord insured it for that amount. Tenants occupied the building and installed improvements and betterments. In total, the tenants had installed $3 million in value. Hence, the building was actually worth $7 million.
After a loss occurred, the insurance company offered a settlement applying a coinsurance penalty based on a value of $7 million. To this, the owners of Offices responded that the insurer was incorrect. Every lease for all of the tenants in the structure stated that the tenants were responsible for repairing their own improvements and betterments. However, the insurer took the position that this provision in the lease did not affect the ownership. All $3 million of the improvements and betterments values accrued to Offices. Therefore, the coinsurance penalty was correct.
Again, we state that a landlord who does not wish to insure for the values of the improvements and betterments should specifically exclude them.
The owners of Strip Shopping Center, Inc. (SSC), required the tenants to inform them of the value of any improvements and betterments that they had added to the building. SSC added the total value of all of the improvements and betterments to the property's value prior to the tenants' improvements in establishing the value for property insurance to buy. They did not endorse the property coverage to include the improvements and betterments values.
A small explosion in an adjoining property caused extensive damage to the Strip Shopping Center building. The insurer performed the proper loss adjusting process and presented SSC with a check for the entire amount of the loss. There had been no need to specifically add the improvements and betterments values by an endorsement to the landlord's policy. These items are automatically included as part of the property coverage that applies to permanent structures.
Tenant's improvements and betterments
Tenant Two, Ltd., put $250,000 of improvements and betterments in the building it had leased. The lease was silent regarding who would be responsible for paying the cost of repairing accident damage to them. Tenant Two did not include the value of the improvements and betterments when establishing the amount of insurance it bought.
A large truck was parked on the parking lot uphill from Tenant Two's location. Kids playing around the truck managed to release the brakes on the rig and the truck rolled down the incline and crashed into Tenant Two's business, causing a total loss.
Tenant Two's insurer paid for the damaged business personal property and also was willing to pay for the damaged improvements and betterments. However, the amount of insurance was not large enough to cover the combined loss of business personal property and improvements and betterments.
The lesson is that the value of improvements and betterments needs to be considered when establishing the amount of property insurance a tenant needs to buy.
Tenant Three, LLC, provides another illustration of what can happen. Its lease stated that Tenant Three's landlord--Property, Inc.--would repair accidental damage to Tenant Three's improvements and betterments. Because of this, the owners of Tenant Three did not consider the value of improvements and betterments when establishing the amount of their property insurance.
A windstorm caused considerable damage to the property of Property and Tenant Three. Property was to fix Tenant Three's damaged improvements and betterments. The owners of Tenant Three wanted to talk to Property's owners regarding the repairs to the improvements and betterments. However, despite repeated phone calls, Tenant Three's calls were not returned. The owners of Tenant Three ordered repair work and talked to the foreman on the job. The foreman did not have any contact with Property for several weeks.
One day the owners of Tenant Three learned why they had not heard from their landlord. Property had filed bankruptcy. Subsequently, Tenant Three learned that the property would not be rebuilt. Tenant Three's property insurance did include coverage for improvements and betterments. However, their insurance limit was not high enough to cover the value of both business personal property and improvements and betterments.
This is a scenario that can occur whenever anyone relies on someone else's insurance to cover them. In this example, Tenant Three was relying on Property to repair the damaged improvements and betterments. Property was not going to have the improvements and betterments fixed. It's easy for an agent to sell improvements and betterments coverage to any tenant when the landlord has agreed to repair damages. If you know your client very well, however, you might wish to discuss this example.
Tenant Four, Inc., put improvements and betterments into the property that it leased from Manufacturer's Park, Ltd. (MPL).
The lease stated that the tenantwas responsible for repairing damaged improvements and betterments.
A fire damaged the property where Tenant Four leased a location. Manufacturer's Park was immediately ready to start with repairing the structure but was unable to get the permits necessary to begin the rebuilding process. About six months passed and, finally, the government body involved informed Manufacturer's Park that they would not grant
Upon being informed of the government decision, the owners of Tenant Four moved the business to a new location. They sought payment from their insurer for what the improvements and betterments at their prior location had cost. In this case, three-fourths of the lease time was remaining. Hence, the insurer paid Tenant Four three-fourths of the cost of the improvements and betterments.
Improvements and betterments are a rather simple item to insure. The building insurance forms automatically cover them. Business personal property forms also provide automatic coverage for improvements and betterments. Some of the problems typically encountered when insuring improvements and betterments, along with some of the recommended solutions are:
* Building owners do not want to insure them.
* Whether the lease states the landlord is responsible for repairing improvements and betterments, many building owners expect the tenant(s) to insure them.
* Increasing building values by the value of the improvements and betterments is something some insureds will refuse to do.
* For the landlord who does not want to insure for the value of the improvements and betterments, specifically exclude them from the building insurance.
* Many tenants feel that the landlord should be responsible for repairing improvements and betterments.
* Many tenants do not know what their lease says regarding who will repair damaged improvements and betterments.
* Sometimes a lease will specifically state that the tenant is responsible for repairing the improvements and betterments. Despite this, the tenant will expect the landlord to repair damaged improvements and betterments.
* Many leases are silent regarding who is to restore damaged improvements and betterments. Despite this, many tenants refuse to carry enough insurance to include the value of the improvements and betterments.
* Building values should be increased by the value of the improvements and betterments that a tenant(s) has installed in the property.
* If the landlord refuses to raise the amount of insurance to include the value of the improvements and betterments, attach an endorsement to exclude coverage on the improvements and betterments.
* In situations where a tenant refuses to include the value of improvements and betterments, exclude improvements and betterments from their form.
* If a client chooses not to purchase improvement and betterments, I suggest that you mark "no need" on the coverage checklist for that client and then have your insured sign it. Doing this could prove helpful if later you are faced with an E&O claim. *
LeRoy H. Utschig, CPCU, ARM, is a Wisconsin-based insurance educator, consultant and expert witness.