Rudolf Holtzman had just purchased an office building as an investment. He was very proud. It was beautiful: 20,000 square feet with six tenants. Regrettably, the day after he closed, one of the tenants experienced an electrical computer malfunction and as a result, his 2000 square foot suite suffered extensive fire damage. Fortunately the building was just three blocks from the closest fire station, and the fire department was able to limit the loss to only this suite. Portions of the building sustained water damage from the fire hoses as well as smoke damage from the fire. In all, half of the building was unusable.

Rudi, though distraught, thought, "I have insurance, I should be O.K." He called his agent and dutifully reported the fire. The agent looked up his coverage and told him, "You know during the bidding process you worked me so hard, and I got you a very low premium, but with a low premium comes low coverage. I will only be able to cover 80 percent of your loss."

Rudi was shocked. He didn’t know what to do, but he realized the structure needed to be rebuilt -- even if he had to pay for some of it himself. Rudi moved ahead and repaired the building, but he swore that it would never happen again. He decided to learn more about insurance coverage, and so he met with a few insurance agents and discovered some interesting information.

There are several ways you can buy insurance for a building. Standard fire insurance is written on either a "Basic" or "Special Form" basis.

• The Basic Form provides coverage on a "named perils" basis. In other words if the peril is not named, the coverage does not exist. Some named perils include: fire, lightning, windstorm, hail, aircraft, riot, vehicles, explosion and smoke.
  
• The Special Form policy will provide coverage for all losses, unless they are excluded. For example mold and mildew, or clean-up for methamphetamine manufacture are excluded from both types of policies.

Both policies will only cover losses that are "sudden and accidental." Losses that occur over a period of time (such as leaking toilets that lead to dryrot), are not covered as they do not meet the test of "sudden and accidental." Some additional coverage can be added to the Basic or Special policy. Typical additions to coverage include loss of rents (income), general liability coverage, or an additional umbrella insurance to increase the level of coverage.

The other way to cover your property is to buy a Business Owners Package (BOP) which bundles all available coverage into one policy. Included in a BOP would be fire coverage (written on a special form basis), loss of rents, theft of money, or loss of business property owned by the insured. (Note: most insurance companies will not write a BOP on a rental dwelling of less than four units, nor will they write on buildings that are over 30 years old.) The BOP is competitively priced, however the underwriting is more conservative and the product is only offered for good quality buildings. Terrorism insurance is also available, but exposure is typically limited. Exclusions to this type of policy include employment practices liability, wrongful termination, sexual harassment, discrimination and earthquake coverage. You can typically buy additional insurance to cover your risk in these areas.

Specialty Markets (also known as Excess and Surplus Lines, the Specialty Admitted Market, and the London Insurance Market) are available to cover hard-to-insure risks such as older buildings, vacant properties, restaurants and bars, storage facilities (such as chemical storage buildings), and high-risk manufacturing. The cost of insurance in the Specialty Markets is usually higher, as there are typically few choices once the standard insurance companies have decided not to insure your property.

Strategic Issues:

During his research Rudi also learned that as stock market returns have weakened over the last few years, terrorists have nipped away at the American homeland and litigation and/or claims have increased due to hurricanes, fires, earthquakes, mold and mildew, leaving insurance companies struggling to maintain their reserves. In an effort to limit their risk, insurance companies have reduced their coverage, pulled out of higher risk markets, and increased the cost of insurance.

Rudi discovered that some insurance companies are not as strong as others. When shopping for insurance you want to make sure a company is financially sound. Insurance companies are rated by services such as AM Best and Standard and Poor. Companies rated A to A++ are typically fairly strong, B+ companies are OK, while C companies are weaker and may not be able to cover you on a claim. You want to write with an A or B+ company or better.

Rudi concluded that he needed to decide when it was best to actually use his insurance company. He thought it might be practical not to report losses that are small. It made sense for him to keep a higher deductible and set aside reserves for small claims. Reporting minor sewer backups, dishwasher or washer spills will red flag you and you may have trouble getting coverage in the future. He found it best to accurately estimate the value of the property and to include an endorsement for inflation in the insurance policy.

Rudi noticed that all insurance coverage includes a "coinsurance clause." This is a tricky clause that allows insurance companies to reduce the coverage of your claim if you do not cover the full value of the property. In reading the language closely he found 90 percent or 80 percent coinsurance language. Most insurance claims will cover the replacement of a whole building if it is completely burned down. In Rudi’s case, where only a portion of a building was damaged (or has an insurable loss), the insurance industry uses this coinsurance language to limit their payout.

Rudi saw that he needed to have a good handle on the value of his property and that he needed to make sure he included coverage for replacement costs as well as an annual inflation adjustment. Additionally, he needed to confirm that his insurance policy also included language to pay for damages under the current codes rather than the codes that were in place when the building was constructed. This is known as Building Ordinance Insurance.

Rudi decided to take control of his insurance claims after he discovered insurance agents ask for a five-year loss run (i.e. the history of claims that have been paid). He deduced that it would be easier to get insurance if he had few (or no) claims. If you claim for everything, you will have a tough time getting insurance.

This also applies to selection of the property you want to own. Rudi picked a good property in a good area. Luckily this was his first insurance claim. If you picked a property with a history of insurance losses, you would struggle in your attempt to obtain insurance.

Armed with this information, Rudi was now prepared to ask the appropriate questions to obtain the correct insurance with the best coverage. Are you?