Are Real Estate Companies Underinsured in Latin America?
Insurance policies are normally stored in drawers and removed from the “to do” list after the negotiation process. It’s a mission accomplished every year. But how many insureds are really aware of the conditions of the coverage they bought? Is this coverage sufficient for their business when a loss occurs?
In Latin America it is quite common to observe real estate risks that involve millions in sums insured but have short Maximum Indemnity Periods for the loss of rents coverage. For risks where the main business of the insured is the rent of the properties, it is really important to spend some additional time to understand the particularities of the coverage.
The usual hired limits include a 6 to 12 month indemnity period. Since this is a standard market offer, brokers and insureds rarely reflect deeply about what this coverage means in a loss scenario. One of the most important points to note is that the loss of rent period is the length of time that the turnover of the business is affected by the loss. If the incorrect coverage is purchased, this period can be significantly longer than the Maximum Indemnity Period. In addition, the loss can extend beyond loss of turnover and lead to additional costs that need to be covered as well. If the coverage is incorrect, the insured will be left with a significant uninsured loss.
To illustrate this, let’s take a hypothetical example of a commercial building on Avenida Paulista, São Paulo - in one of the top three commercial centers in Brazil’s largest city. If a fire were to affect a commercial building in this area, which is surrounded by skyscrapers, how long will it take to rebuild the building? It’s important to take into consideration that in this area construction activities, such as the “loading/unloading” of trucks transporting materials, are forbidden at certain times of the day. In that case, will six months be sufficient for the insured to complete the works and return to its pre-fire turnover and level of costs? The answer is clearly no. Even if the reconstruction process doesn’t exceed the Maximum Indemnity Period, it’s important to factor in empty space left by tenants who may have moved while the building was being rebuilt. A 24-to-36-month indemnity period for loss of rents is the standard model in Europe and the U.S., and Latin America should follow suit.
In an actual example, on February 12, 2005, there was a fire in one of Spain’s tallest buildings, the Windsor Tower in Madrid. The tower, which had 32 floors, was located in the financial center of the Spanish capital. Deloitte Spain had several employees working in the building in addition to the offices of three law firms. Demolition works were completed on August 13, 2005 - six months after the fire. In this case, a six-month Maximum Indemnity Period would have been inadequate, and it would have left the insured with a large uninsured loss.
Therefore, it is extremely important to know if the coverage for Loss of Rent will be adequate to cover your needs and business before signing a standard form. Asking the broker questions is an important step in becoming aware of the real coverage you are buying. And if you are a broker, be sure you are offering the right coverage to your client; clear explanations on its importance can be a big differential in your work.