What is underinsurance, and how can you avoid it?
If the unexpected happens, having the right insurance can provide you with a valuable safety net and help you get things back on track. Therefore, it’s vital to ensure you have the appropriate level of cover for your needs. However, many policyholders unwittingly end up underinsured.
By Alan Boswell Group
This means that if you need to make a claim, the amount you receive could be less than what you need, leaving you considerably out of pocket.
What does underinsurance mean?
Underinsurance is when the amount you’re insured for on your policy, known as the ‘sum insured’ on a residential property policy, isn’t enough to cover the current cost of replacing your possessions, or repairing or rebuilding your property. Ultimately, if you are underinsured and make a claim, you could end up with a significantly reduced payout, leaving you responsible for covering the rest.
The 'condition of average' explained
Most insurance policies contain a ‘condition of average’, also known as an ‘average clause’, which allows your insurer to reduce your claim payout by the percentage by which you are underinsured. For example,
The rebuild value of your property is £500,000.
You insured the building for £250,000. This means you are 50% underinsured.
You suffer a fire that causes £50,000 worth of damage.
Because you were only 50% insured, the insurer will apply the ‘condition of average’ and only pay 50% of the claim. Therefore, you would receive just £25,000 (less your policy excess), leaving you to cover the remaining £25,000 yourself.
The average clause might seem unfair, but it’s a way for insurers to protect themselves from policyholders who might intentionally underinsure their property so that they can pay a lower premium. Not all insurance policies include the average clause, but if they do, it should be clearly set out in your policy documents.
Many home insurance policies have a blanket sum insured, which covers up to a set amount, for example, £500,000 or £1million. This is often sufficient for many properties, but you should still check the rebuild value of your property to be sure.
Common causes of underinsurance
People unintentionally underinsure their property for a wide range of reasons. Some of the main areas to be aware of are:
Underestimating your home's rebuild cost
The rebuild cost of your residential property is used to determine the ‘sum insured’ on your building insurance policy. It’s important to remember that this figure can be higher or lower than the market value. For example, older properties often cost more than the market value due to the materials and specialist tradespeople needed for their construction. In contrast, a new build property may cost less to rebuild than its market value (which could leave you overinsured and paying a higher premium).
Your building insurance should be sufficient to cover the cost of rebuilding your property if it were completely destroyed.
To insure your property for the correct value, make sure you factor in costs for:
Hiring professionals, like architects and surveyors
Labour
Materials
Demolition and debris removal
Alternative accommodation for the duration of the work.
Once you’ve accurately calculated the cost of rebuilding your property, you’ll know how much you need to insure it for.
To assist with calculating rebuild value, you can use the BCIS calculator. For larger, listed, or older properties and blocks of flats, consider a desktop survey or an in-person survey to obtain an accurate rebuild value.
Forgetting to value all your contents
Contents insurance should cover the cost of repairing or replacing (from new) all your possessions at home, including items such as clothing, kitchenware, and electronics. Your contents policy should also include belongings kept in sheds, as well as items stored in attics and garages.
People often provide a rough estimate for the value of their contents, making it easy to underinsure them. Taking the time to think about the cost of replacing your belongings at their current retail price (not what you paid for them) can save you a lot of trouble in the long-term.
The impact of inflation
It’s easy to overlook the impact of inflation on the value of your insurance. For example, the cost of building materials and labour rises over time, so the cost of rebuilding your house will also increase, and this needs to be reflected in your insurance policy. Likewise, the cost of replacing your possessions is also likely to increase year-on-year. Therefore, a sum that was accurate a few years ago may be inadequate today.
Many home insurance policies are index-linked (meaning they are adjusted in line with inflation) or have blanket sums-insured (meaning that they have a fixed sum insured which is normally high enough to cover the majority of standard homes), to help you avoid being underinsured.
Not accounting for new purchases, building work, and appreciating assets
Automatically renewing your policy without reviewing it can also leave you underinsured. For example, you may have bought an expensive new TV or sound system, but not updated your home contents policy to reflect your purchases. Similarly, if you add an extension to your property but don’t adjust the sum insured on your building insurance accordingly, you could be underinsured.
Additionally, the worth of higher-value items and collectables, such as jewellery and artwork, often outstrips the rate of inflation. Therefore, it’s important to have these revalued every 3-5 years to make sure they are accurately reflected in your policy.
A step-by-step guide to avoiding underinsurance
Calculate your building cover correctly
If you’re struggling to work out the rebuild value of your home, there are online calculators you can use which provide a guide. For a standard home, try using the Building Cost Information Service (BCIS) tool, which was commissioned by the Association of British Insurers (ABI). For non-standard properties, such as listed buildings or those made with unusual materials, we’d recommend getting a professional assessment from a chartered surveyor.
Create a detailed contents inventory
Valuing your contents accurately can be time-consuming to start with, but getting it right will ensure your policy is based on an accurate inventory. The best way to do this is to go through your home room by room, making a note of everything that you own and the current cost of replacing it from new. Make sure your inventory is kept up-to-date and regularly reviewed. Don’t forget everyday items like crockery, cutlery, towels, and even bed linen. And remember, you need to consider the replacement cost of buying everything new, not what you paid for them or think they’re worth now. Our contents calculator tool can help you with this process.
Identify and value your high-worth items
Almost all contents insurance policies will include a single article limit and a total limit for valuables, which is typically one third of the contents sum insured (valuables include items made from gold and silver, jewellery, watches, works of art, paintings etc). The single article limit is the maximum amount of money you’ll get for any one item when you make a claim. Typically, it’s set at around £2,500, which may seem like a lot, but bear in mind that items like jewellery, watches, and paintings often have a higher value. If you own items valued at more than the single article limit (or valuables which would collectively be above the total limit), you should let your broker or insurer know, as they will list this separately on your policy. It’s worth considering getting a professional valuation for anything you’re unsure about, such as artwork.
Review your policy annually
Try not to let your policy roll over without reviewing it. Regularly review the sums insured and consider the value of any items you’ve purchased that might need to be added, or any home improvements you have made. Letting your insurer know as soon as you make new purchases can help ensure you have enough cover at all times. If you’re looking at updating a business policy, consider your stock levels throughout the year. If you take on seasonal stock, check that your policy reflects the value of what you keep on the premises.
Don’t run the risk of underinsuring your assets
We understand how easy it is to slip into the trap of underinsurance, but taking the time to review and update your policy on a regular basis can minimise the stress and anxiety of being out of pocket when you make a claim.
Need help with your insurance?
For expert advice and to find out more about home and contents insurance for your property, speak to our team or send us an email.
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FAQs
Being over-insured means you have higher insurance cover than you need. For example, the rebuild cost of your house is £400,000, but you insure it for £600,000. Being underinsured means you have less cover than needed to repair or rebuild your property or contents.
No, your insurer won’t always tell you if you’re underinsured, as they rely on you providing them with accurate information to be able to assess the value of the cover you require.
Index-linked insurance policies help prevent underinsurance by adjusting your level of cover to reflect the wider economic environment. This means your cover will be updated annually based on the building cost index from the Building Cost Information Service (BCIS). Many home insurance policies are automatically index-linked to help policyholders avoid being underinsured (although this relies on the accuracy of the rebuild value you specify).
Generally speaking, underinsurance alone won’t cause your insurer to void your policy. However, it can lead to issues with claims, as explored earlier. Voiding a policy is a severe action, and insurers typically reserve it for more serious breaches. These include issues like misrepresentation or non-disclosure, where you have deliberately provided false information, withheld key facts, or misused your policy.
Are you underinsured?
Inflation. Rising material costs. A shortage of labour. In many cases, rebuilding your home will cost a lot more than its market value. We help you check whether you’re underinsured, and what you can do to make sure your home insurance is adequate.
Business underinsurance - the risks and how to avoid them
Underinsurance can occur in any area of insurance, whether personal or commercial. Here, we explore the risks of business underinsurance and what you should do to avoid the consequences.