Every so often, a catastrophe occurs that wipes out entire homes and commercial buildings. It may be something localized, like a fire, or something widespread, such as a hurricane, earthquake, mudslide, or explosion.
How your insurance policy pays on your claim is determined by a few factors: your deductible, how the policy was written (actual cash value or replacement cost), the coinsurance penalty (if any) and whether the home or business owner plans to rebuild.
In most cases, policyholders rebuild. But what if you choose not to rebuild? What happens then?
Should You Rebuild Your Home?
A homeowner may choose not to rebuild his home after a total loss for many reasons. Perhaps he is tired of the location, or the cost to rebuild has become too expensive. Maybe it is the wrong school district, taxes in the area are too high, or the neighbors host too many loud parties.
Can you choose not to rebuild your home? Certainly, but you should check the terms of your policy before the unthinkable happens, as some policies may have different ideas about how to pay if you choose not to rebuild.
The Homeowners 3 – Special Form (HO3) has a section entitled Loss Settlement that addresses this issue in a unique way. If coverage is written on a replacement cost basis, then payment will initially be made at actual cash value (replacement cost less depreciation). Once rebuilding is in process or completed, the remainder of the policy face value (less deductible and coinsurance penalties) will be reimbursed.
If the structure is not replaced, then no additional money will be paid on the claim. Depending on the age of the structure, cost of depreciation could significantly reduce your claim payment.
Please note that this loss settlement scenario is based on the HO3. Some insurance companies do not use this form, or endorse the loss settlement provision. It is important to read this section and discuss it with your broker before a loss occurs if you think you may not rebuild.
Choosing Not To Rebuild Your Business
Loss settlement in the event of a total loss on commercial property is much the same as loss settlement on the homeowners insurance policy. However, the Building and Personal Property Coverage Form (CP0010) includes the following options for loss payment:
- Pay the value of lost or damaged property.
- Pay the cost of repairing or replacing the lost or damaged property.
- Take all or any part of the property at an agreed or appraised value.
- Repair, rebuild or replace the property with other property of like kind and quality.
Commercial property policies written on a replacement cost basis will be paid out on an actual cash basis if the policyholder requests it (such as, if the plan is not to rebuild). The selection to receive actual cash value claim payment means the face value of the policy will not be repaid. Claim payment will also still be subject to the deductible.
The form quoted above is the industry standard form. Some companies may use manuscript forms and endorsements that differ from the CP0010. If you do not plan to rebuild in the event of a total loss, please discuss your options with your insurance broker.
Why Is Claim Payment Affected?
Insurance adheres to the Make-Whole Doctrine. When a person or business purchases a policy, they are expected and entitled to insure for the replacement cost value of the property they are insuring. This allows the insurance company to assist in making the policyholder whole again in the event of a claim. What you lost will be replaced in the amount you need to be made whole again up to the face value of the policy.
This doctrine is put in place to ensure that policyholders don’t profit from a property loss, reducing incidences of insurance fraud. Actual cash value reimburses the policyholder for the property that was lost without resulting in a profit.
The bottom line is this: if you do not plan to rebuild your home or business in the event of a loss, you should discuss this with your broker as soon as possible.