The following article was written by Brad Winters, a commercial insurance specialist of Winters Financial Network.
Insurance agents have a lot of crazy questions and agents that insure rental properties are no exception. Ever wonder what it all means? As a rental property insurance agent and a rental property manager myself, I can attest, there is a method behind the madness. And understanding that method can be a huge asset to you as a real property investor.
At best, most view insurance as a necessary evil to protect their business. At worst, they see it as another painful line item on their balance sheet. In truth, the right policy can provide you the perfect balance of protection and affordability. Understanding some of the factors that determine how a policy is priced and reviewed can help you make a significantly more educated buying decision. Below, I break down four common questions your rental property insurance agent needs to know when crafting your policy. Understanding these questions and what they mean might even help you think a little bit more like your insurance agent!
1. WHO WILL BE LIVING IN THE BUILDING? – Is the building specifically used as student housing or elderly/assisted living? Does the landlord accept Section 8 or subsidized tenants? There are many risk factors associated with insurance pricing, but some of the biggest factors relate to the clientele the building(s) will be rented to.
Many standard insurance carriers will not allow student housing or assisted living-type buildings in their portfolio, and some will even refuse to quote a property with Section 8 subsidized tenants above a certain percentage of occupancy. Keep all this in mind as you consider potential investment properties as these factors can increase the price of coverage considerably.
2. WHAT TYPE OF UPDATES HAVE BEEN MADE TO THE BUILDING? – When was the last time the boiler in the basement of that 1894 construction apartment building was inspected/replaced? What type of electrical wiring is in the building? How old is the slate roof on that duplex you’ve been considering making an offer on? All of these are important questions to consider as well when evaluating a potential property.
Aluminum wiring, knob and tube wiring, and Federal Pacific or Stab Lok breaker boxes are all major risk factors for insurance purposes, and the presence of any of them will send the price of insuring your new investment higher than you might realize. Other factors like the presence of alternative heat sources such as a gas/wood fireplace or a stove can also affect coverage and pricing.
Perhaps the most commonly overlooked question about the condition of a property, however, is the age and condition of its roof. When it’s time to make a claim, some companies will actually limit coverage due to roof age and condition, so always be sure you have a good answer for your agent when they ask you specifics about the current state of your potential property.
Also, keep in mind that many of these updates can be negotiated into your purchase price with a seller/buyer. If you know that you will need to replace aluminum wiring in a building to avoid paying a higher insurance premium, you should reasonably be able to negotiate with that person a price that would reflect your extra costs.
3. WAS THE BUILDING ORIGINALLY BUILT FOR HABITATION? – These days, it seems that more and more urban buildings originally constructed as schools, warehouses, or even manufacturing facilities are being converted into loft style apartment housing. While this gives the apartments themselves a very unique and desirable feel, it does cause some hesitation on the part of insurance carriers. In fact, most carriers currently either will not accept a building that is a converted occupancy, or they will surcharge heavily for it.
While there are an increasing number of companies willing to be open to considering this type of rental property on a case by case basis, the overall appetite is still relatively low when compared to the appetite for more traditional buildings that do not require a conversion. Keep this in mind when considering a property you either intend to convert or one that has already been converted, and be sure and work with an agent who has access to sufficient markets to shop this type of building to multiple carriers.
4. HAVE YOU INSURED THE BUILDING FOR IT’S RECONSTRUCTION COST OR THE ACTUAL CASH VALUE? – The premium rating of a commercial investment property refers to the amount that needs to be paid to insure the building. Possibly the largest factor in setting a premium rating is the claim limit on the valuation of the structure itself. That may sound like a bit of gobbledygook, but a few examples should offer clarity.
Would you like to insure a building built in 1920 for an identical replacement cost? Even if that means paying for outdated and expensive materials and methods and navigating around updated city ordinances and laws? Doing so usually costs a great deal more than you actually paid for the building. Or would you instead like to only insure the building for the loan amount taken to purchase the building? If there is a claim, it will lower the amount you can recover. The more you choose to insure, the higher cost premium you’ll pay.
There are many other factors that go into insuring an investment rental property. Some terms you may hear include coinsurance penalties, deductibles, ITV, increased cost of construction, and demolition costs… A good agent should be able to explain each of these to you in a method you can understand clearly and apply to your situation. But going into any conversation or buying decision with knowledge about how the process works will better equip you to make a more educated insurance decision. And hopefully, as a result, you’ll find an insurance product and coverage level perfect for you and your unique situation!