Underinsured? Rebuild Cost Inflation and the Average Clause

We have recently been doing some work for a private, property management company where we own a buy to let investment and highlighted the fact that buildings insurance was up for renewal and it had been some time since the rebuilding insurance cost had been reviewed.

Sale Valuation Price v Insurance Value

• Sale Value:  For the same specifications and build for a property in London and the South East will have a different valuation to the exactly the same property in Birmingham, Manchester and Scunthorpe or even different sales valuations in different regions of London, Birmingham, Manchester and Scunthorpe.
• Insurance Valuation:  For the same specifications and build for a property in London and the South East will have a similar  but only marginally higher rebuilding costs than in Birmingham, Manchester and Scunthorpe and virtually identical insurance rebuilding costs in Birmingham, Manchester or Scunthorpe.
• You should insure for the rebuild cost and not sales valuation.

Building Costs Are Up

According to the Building Cost Information Service (BCIS) in association with the Association of British Insurers (ABI) from January 2020 through to June 2022, there was an increase of 86% in the Concrete: Reinforcement index, and up 42% in softwood carcassing and structural timbers by October 2021.  In addition, average rebuild costs overall have gone up by nearly 19% since 2022.

This means if you have only had your buildings insurance cover increase automatically each year by inflation, you may be underinsured.

We used the BCIS calculator (https://calculator.bcis.co.uk/) to play around with a few calculations, and we found as an example in the KT2 postcode (Kingston, Greater London), the average rebuilding costs for a small 4 apartment block with high level finishes was c£800,000 in 2020, but today it is now up 33% to £1.13m.

• Underinsured Rebuild:  If the property was completely destroyed by fire, there would not be enough insurance protection to rebuild the property

Underinsurance and The Average Clause

Many people do not realise that underinsurance has an impact across all your insurance needs and requirements.  In the above example, if the apartment block was insured for £800,000 but its actual reinstatement value was £1.2 million, the building would be underinsured by 34%.

If there is a partial loss e.g., a storm damages the roof and rips it off causing a claim to reinstate the roof for £200,000, the insurer may apply the ‘average clause’, by reducing the payout to reflect the level of underinsurance.   With 34% underinsurance, the insurers would only be liable to pay 66% of the total claim of £200,000 i.e.  £132,000 and not the full £200,000.

This would leave the policyholder i.e.  the management company and owners of the block with a shortfall to repair the roof of £68,000.

The ‘average clause’ applies to most types of property insurance such as buildings, contents, and motor insurances.

You must ensure you have adequate insurance protection and not be underinsurance as the financial impact can be devastating if you suffer a financial loss and do not have adequate cover.

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