Over the years we have seen the issues of landlord’s insurance from both sides of the fence. The landlord controls the policy and premiums, but the tenants want to make sure they are not being asked to pay for anything that would not benefit them and be required by the terms of the lease.
An average lease will require the landlord to provide the following coverages:
- General Liability to cover bodily injury and property damage claims which occur in the common areas of the shopping center
- Property Coverage on a “Special Cause of Loss” policy form (previously called “all risk”) for damage to the building by a covered cause of loss such as fire, wind damage, and vandalism to name a few of the many coverages a property policy will include.
Many additional coverages and charges may be included on an insurance policy which, while not specifically mentioned in the lease, could be to your advantage to include in the reimbursement of the premiums.
Two sometimes conflicting factors should be considered in determining items that should be included or excluded in reimbursements:
- The first is that the lease language rules!
- The other is more subtle. The underlying reason to require landlord coverage is to make sure they maintain proper coverage to prevent impairment of your occupancy of space that generates your income. Even if the lease does not specifically address a named coverage, it could fall within the intent of the lease requirement. Unfortunately, lease language can be outdated, referring to obsolete terms and forms that do not match with current policies and may not include coverages that have become standard. Some examples follow.
Flood coverage is often not mentioned specifically in a lease, and is excluded in the average property policy, so the costs associated with the coverage could be removed from the reimbursement payment. Because of this the landlord may not obtain the coverage as it would not be required and/or he would be responsible for 100% of the premiums. The issue would be if there was flooding at the location it could do hundreds of thousands in damage even in a location that is considered a “low hazard” location. We have seen it again and again! Over 50% of the areas that flooded during Hurricane Harvey in Texas and Louisiana were not in “high hazard” flood locations. Harvey stalled and caused millions in flood damage. Without coverage to fix the building, it could take months’ extra to make the repairs if it doesn’t close the location down for good. This not only causes you to lose possible sales during the closure of the store, but it could mean losing a high revenue store completely.
Earthquake coverage presents the same issue except that it is very unlikely for an earthquake to occur outside of an earthquake zone so this would be much easier to control.
Equipment Breakdown coverage (previously known as Boiler & Machinery) is now usually included in a property policy for no or very small additional cost. Although the tenant may be responsible for the HVAC units, if this were included in the landlord’s policy, there would be little to no cost to you for the replacement so it could provide significant savings to you in the long run.
Rental Income/Business Income has become more common in leases that we have seen. In most cases, if the rent is to be abated at the time of a loss then rental income has been an accepted part of the insurance for the landlord. The cost is minimal with many policies including 12 months loss of income as an automatic coverage for no additional premium.
Terrorism Coverage did not exist until after the World Trade Center attack on 9/11/2001. TRIA coverage is reinsured by the federal government at an extremely high retention level, but is mandatory on any property with a mortgage. Insurance companies are required to show the portion of the premium that applies for terrorism as those premiums are aggregated and reported to the government, but in most cases the coverage is not optional.
One last item that is sometimes inappropriately excluded from reimbursement, are the taxes and fees associated with a Surplus Lines policy. Locations in high hazard areas may find themselves unable to obtain coverage through a standard market so may end up with a carrier who is “non-admitted,” a surplus lines insurer. Standard “admitted” carriers make rate and form filings and pay premium taxes in each state where they do business. Surplus Lines carriers are specialty markets that are less regulated and have more flexibility in their operations. They do not pay premium tax directly to the state, so with these policies the surplus lines fees and taxes must be added to the premiums which are listed on the invoices as well as broken out on the policy declarations pages. The only difference is that a standard carrier is required to include these costs in their premium numbers.
In reviewing reimbursement charges, another challenge is to determine if the charges are reasonable and properly allocated. One way to help determine if the premiums appear correct would be to compare the cost of the insurance with coverage on locations in similar areas, however, you may be surprised to see a bigger difference in the premiums than you would imagine. A few things to think about that could be the reason for these differences are:
Deductibles can greatly affect the premiums. The lease can dictate this to a certain degree by requiring deductibles to remain within a certain range such as no lower than $10,000 based on the thought that a higher deductible will cause a lower premium. This is true in many cases, but there are circumstances that can contribute to the higher premiums which an increase in the deductible will not help.
COPE (Construction, Occupancy, Protection, and Exposure) COPE information on the building will also affect the premiums as it provides the profile of a risk and is very important to insurance companies when they are considering the ratings. For example, a metal building would be cheaper to insure than a brick masonry building as the materials alone would be much more expensive. The age of the building as well as maintenance are also issues, an older building with outdated electrical or old plumbing increase the chance of damage to the building. A shopping center with a high energy restaurant/bar as a tenant can increase the cost due to the higher chance of a fire or liability claims. A building fully sprinklered would be able to get a much better rate than one without and of course what type of alarm system does it use? How close is the fire department? Finally, you would need to judge the exposures in the area such as making sure the building is built to hurricane codes in Florida or making sure the HVAC is protected in a high crime area.
High Hazard Areas increase costs due to the likelihood of an eventual loss. Most would understand the higher cost of premiums in an area such as Florida due to the hurricanes or in California because of the earthquakes and more recently fires, however there are many other areas around the country that are also affected by Mother Nature’s extreme moods of late. The Midwest is seeing increases in premiums and deductibles due to hail damage that has cost millions in roof repairs. Mid-Texas is seeing increases due to the high winds that are not associated with the coastal counties, and of course the entire country has high hazard flood zones with more being mapped by FEMA each year.
Claims are another large factor in the calculation of the premiums. A shopping center in a high crime area will be more prone to damage by theft or vandalism which will drive up the cost. On the opposite side of the coin, a community made up of older, retired residents may have a larger frequency of falls in the common areas.
All of these items are considered when the rates for the insurance are calculated and any or all can help or hurt the final premiums. An example would be that if you could require the landlord to obtain a higher deductible due to an increase in premium, you may not see the savings you are hoping to see depending on the circumstances causing the increase. We will leave reinsurance as a topic for another day, but suffice it to say that insurance is a true world market influenced by industry loss experience anywhere and the amount of capital available to the market at any point in time.
A common recommendation is to review policy declaration pages and the location detail on policies to determine the premiums for each location. That works well if a store is insured on a policy with one or a small number of locations as each location would be individually rated. Larger landlords are generally insured on Blanket Policies which provide coverage for multiple locations. The combination of larger values and spread of risk can produce better coverage at lower cost, but the premiums are frequently based on a policy rate rather than computing a cost for each location. The issue for the lease auditor becomes how the large policy premium is allocated between the various locations. There is an overall benefit in total cost, but most allocations are based on the values at a location to total values on the policy for the property premium and the square feet at the location to total square feet for the liability premium. The result is that a location in a high-risk area may benefit from the rest of the locations with a much lower premium than they would have with a standalone policy, but a preferred risk location could be charged more. Most insurance agents should be able to provide you with the rates being used on the policy as well as the building value for the shopping center. With these numbers you can then calculate what your share of the premium should be based on the square feet you occupy. This is true with both the property and liability coverages. You should note that the rate on many of these policies includes coverage such as flood, earthquake, or equipment, so being able to produce a number that would not include these may not be possible.
We may have stirred up more issues than we have addressed but hope that this information will be of benefit in understanding the “why” of some of the situations you may encounter. If you have any specific questions, please feel free to contact us and we will try to help.
by Robert Medling and Susan Weimer, Principals, Commercial Insurance Associates (CIA)