The owner of a commercial building might believe that Replacement Cost insurance coverage on the building is sufficient to protect them from financial loss. After all, they took the insurance agent’s advice and bought enough insurance to pay for repairing or replacing the building if it were completely destroyed. However, this might be a false sense of security, particularly if the building is an older one. Although the building might not have changed greatly over the years, local building codes undoubtedly have. Even codes in effect at the time the building was constructed could affect your insurance coverage.
Many local governments have ordinances that require the demolition of a building when more than 50% of the building has been damaged. These ordinances require the reconstruction of the building in accordance with current building codes. Zoning and land use codes might have changed over the years prohibiting the reconstruction of that type of building at the same site. This could require the owner to rebuild somewhere else or with a much different building design. Laws and codes requiring buildings to be accessible to handicapped people might affect rebuilding if the building previously lacked ramps, doors that can be opened remotely, wheelchair-accessible toilets, and other accommodations.
All of these requirements could increase the cost of rebuilding significantly. Unfortunately, standard Commercial Property insurance policies provide very little coverage for these higher costs. Most will pay either 5% of the amount of insurance on the building or $10,000, whichever is less, for the increased cost of construction resulting from a local ordinance or law. Therefore, the amount of insurance available for a building insured for $150,000 is $7,500; the amount available for a building insured for $500,000 is $10,000. The costs of demolition and rebuilding up to new codes or at a new location can quickly use up this relatively small amount.
Building owners should consider buying additional insurance to cover this possibility. Many insurance companies offer ordinance or law coverage for an additional premium. This coverage will pay for the additional costs of demolition and construction unless the costs result from failure to comply with previous ordinances or from the release of pollutants. Included are three distinct coverages for the specified building:
- Coverage A – Loss to the undamaged portion of the building
- Coverage B – Cost of demolishing the undamaged portion of the building
- Coverage C – Increased cost of construction or repairs to comply with ordinances or laws
The amount of insurance available under Coverage A equals the amount of insurance covering the entire building. Separate amounts apply to Coverages B and C. There is no coverage if the damage results from a cause that the policy excludes. For example, most policies do not cover flood damage, so the policy will not pay if the law requires the owner to demolish the building after a flood. Also, the insurance will pay only the amount necessary to meet the minimum requirements. The insurance will not pay for the cost of exceeding requirements during rebuilding.
This insurance covers the owner only for the cost of repairing or replacing the building, not for income lost during additional reconstruction time. Separate coverage is available for this exposure.
Our agents can advise you on the types, amounts, and costs of coverage you might need to meet updated codes. Whether or not you decide they need the coverage, you should give it careful consideration. The last thing you want is a surprise uninsured expense after a disaster.