Average clause

Tue, Sep 16th 2014, 12:20 PM

If you have a property insurance policy, you certainly would have received a notice at renewal drawing your attention to the "average clause" in your policy wording. There is a statutory requirement for insurers to notify their policyholders in writing as to the nature and effect of the "condition of average" before taking out the policy and before every policy renewal. In a nutshell, this clause gives insurers the right to proportionally reduce the amount of a claim if the insured's sum insured or limit of indemnity does not reflect the full value of the property at risk.
For example, if a client insures his house for $100,000 and it burns down completely, and the loss adjuster finds that the home actually costs $200,000 to rebuild, the claim will not be for the full amount of $200,000 but for the insured amount of $100,000. Likewise, for a partial loss of, say, only $15,000, the amount payable would only be $7,500 and not the full indemnity of $15,000; the claim is reduced proportionally to the amount of underinsurance. The reason being the insurer only received half the premium for the true amount at risk, therefore it will only pay half the claim. The insured client is therefore considered to be his own insurer for the amount of underinsurance.
This average clause is called the "pro-rata condition of average" or, in some policies, the "co-insurance clause", as the client is effectively a co-insurer for the portion of the risk he retains. The act is seeking to make sure clients are informed about the "average clause" so that expectations are managed when it comes time to claim and that no one is left feeling hard done by.
It's important to remember that a contract of insurance is just that: a contract. The insurance policy is not a magic wand that you can wave at the time of a loss to make everything better; it is an agreement to pay a certain amount of money under a very specific set of circumstances. Fortunately, policies nowadays are written in plain English, are easier to read and should be happily explained to you by your broker.
It seems that the average clause gets all of the attention because of the stipulation for disclosure in the Insurance Act. However, there are other circumstances where you might receive less than the full amount of indemnity when you claim. Notwithstanding the overall sum insured or policy limit, there may be sub-limits under an insurance policy which will result in the client receiving less than the full amount of compensation for a loss. For example, in household policies, there may be a single article limit of $2,500 for any one item not otherwise specified. Thus, if you forgot to mention that you have a painting valued $6,000 in your home and it is destroyed, you might only receive $2,500 under the policy sub-limit instead of the full $6,000.
Another circumstance where the client might receive less than the full amount of a loss is where the insured bears the first portion of the claim, commonly known as a deductible or excess. A deductible can be a specific sum of money say, $400, or a percentage of the sum insured, for example two percent. Deductibles can be compulsory or requested by the client in exchange for a discount on the premium.
Insurance brokers are in the business of helping their clients to help themselves when it comes to insurance. Ask your broker to explain your policy wording and the average clause to you and ask them to point out any circumstance where you might not receive full compensation for a loss. Your insurance broker's expertise is in the operation of the policy wordings and the availability of capacity in the insurance market. They know where to find the right cover for you at the right price. However, when advising on the actual sums insured, only a qualified appraiser or surveyor should be advising you on the replacement cost of your property whether it be a watch, boat, home or commercial property.

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