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We all live busy lives, so it’s easy to understand how individuals and businesses overlook the importance of regularly updating their insurance policies. However, this oversight can lead to a situation known as underinsurance – where the coverage limits of an insurance policy are insufficient to fully cover the value of one's assets or potential liabilities.
In our recent article on the most common insurance mistakes, we identified underinsurance as one of the top seven risks. And it’s no wonder – underinsurance can lead to serious financial consequences in the event of a claim. So here’s our guide to what underinsurance is and how to avoid it.
Underinsurance occurs when the value of the coverage provided by an insurance policy falls short of the actual value of the assets insured. This can happen if the policyholder fails to regularly review and update their insurance policy to reflect changes in the value of their assets or the scope of their liabilities. For instance, a business might purchase equipment worth £500,000 but only insure it for £200,000. In the event of a loss, the insurance payout would be based on the insured amount, leaving the business significantly out of pocket.
Nicola Bowtell, Hamilton Fraser’s Account Executive (Healthcare), emphasises the importance of keeping policies up to date. She notes, “We’ve seen cases where businesses have equipment insured for £40,000, but in reality, their contents are worth £500,000. In such instances, underinsurance becomes a significant issue, and it’s crucial to regularly review and adjust coverage to reflect the actual value of assets.”
The primary risk of underinsurance is that it leaves the policyholder vulnerable to significant financial losses. In the event of a claim, the insurer will apply the "average clause," which reduces the payout proportionally to the level of underinsurance. For example, if you insure an asset for only 50% of its actual value, the insurer may only pay 50% of any claim made, regardless of the size of the loss.
For businesses, this can be particularly devastating. In cases where expensive equipment, machinery, or stock is underinsured, the financial burden of replacing these assets can lead to severe cash flow problems or even business closure. Additionally, underinsured businesses may struggle to recover from major incidents like fires, floods, or theft, as they would not have sufficient funds from insurance payouts to fully rebuild or replace lost assets.
Nicola explains, “In the event of a fire or any other major incident, if you’re underinsured, you’re going to be massively out of pocket. We’ve seen too many cases where clients suffer because they haven’t updated their coverage to match the real value of their assets.”
Underinsurance often occurs due to negligence or a lack of awareness. Many policyholders purchase insurance and then forget to update their policies as their circumstances change. For businesses, this could mean failing to report the acquisition of new equipment, the addition of new treatments or services, or an increase in stock levels. It’s similar to when people forget to update their home insurance policies after renovations, leading to a significant gap between the insured value and the actual value of the property.
Another common scenario is when policyholders underestimate the value of their assets or choose lower coverage limits to reduce premiums. While this may save money in the short term, it increases the risk of financial loss in the long term.
Nicola highlights a common issue: “People often forget to update their policies after making significant changes, like adding new treatments or increasing their turnover. If this isn’t communicated to the insurer, it can lead to claims being repudiated because the coverage doesn’t reflect the current situation.”
The best way to avoid underinsurance is to conduct regular reviews of your insurance policies. This involves assessing the value of your assets and liabilities and making sure that your coverage limits are sufficient to cover them fully. For businesses, it’s crucial to inform your insurer of any changes, such as new equipment, additional services, or staff changes. These updates make sure that all aspects of your business are covered and reduce the risk of a claim being denied due to underinsurance.
Nicola stresses the importance of communication: “It’s vital to inform your insurer of any changes, whether it’s new treatments, staff, or even turnover adjustments. This proactive approach makes sure that your coverage remains adequate and effective.”
Additionally, consider seeking professional advice when purchasing or renewing insurance. An insurance broker or advisor can help you accurately assess the value of your assets and recommend appropriate coverage levels. They can also help you understand the implications of underinsurance and how to avoid it.
Underinsurance is a serious issue that can have devastating financial consequences. By regularly reviewing and updating your insurance policies, you can make sure that you are adequately covered and protect yourself from significant financial losses. Remember, the purpose of insurance is to provide peace of mind and financial security – don’t let underinsurance compromise that.
Nicola sums it up: “We’re only trying to protect the client. It’s in their best interest to keep us informed of any changes, making sure that their policy truly meets their current needs.”
So make sure that your coverage evolves with your needs, and don’t hesitate to speak to us to make sure your policy aligns with the current value of your assets and potential liabilities.
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