Chris Grieve, Head of Broker Distribution, Bryte Insurance

Condition of average is one of the terms and conditions in an insurance policy and one that is extremely important for policyholders to understand.

It is a critical principle that applies in the case of underinsurance – and it can have serious financial implications for policyholders. When a policyholder makes a claim, the application of average enables an insurer to reduce any settlement proportionately to the ratio of underinsurance, based on declared asset or gross profit values (as in the case of business interruption claims).

For example, suppose the declared insured value of an asset is 30% of the actual value, then the insured will only be entitled to claim 30% of the loss under the insurance policy. The policyholder will then bear a large proportion of the loss from their own pocket.

It is, therefore, vitally important to ensure that the level of cover matches the actual value of insured assets. This can be a challenge amid high levels of inflation.

Inflationary pressure on asset prices

Global inflation has caused economic stress and South Africa has been no exception, with the rate of inflation hitting 8% – the highest in 13 years. Global inflation’s impact on the South African economy will continue to drive up the cost of living.

Key industries most affected by global and local inflation are the hospitality, automotive, and property sectors. The post-COVID-19 demand surge, and government economic support implemented during the pandemic, have also driven up inflation.

In the property sector, expected price increases range between 7% and 9%, necessitating sum insured increases. Insurers are also contending with increases in construction materials, supply disruptions such as chip shortages and high demand for skilled trade workers, which are all contributing to increased costs and higher premiums.

Preparing for future risks

With inflation likely to affect the pricing of premiums, it is essential for customers to consistently engage with risk managers for a better understanding of the risk landscape – and to take effective steps to anticipate and deal with the risk of underinsurance. It’s also important to clearly communicate the limits of cover for the prevailing risks they can face. Brokers remain essential partners in guiding customers in terms of ensuring the adequacy of cover limits as well as the various options available.

As businesses and insurers assess the long-term consequences of inflation, the industry needs to provide sound and fair services to its customers. Achieving this will require a better understanding of the trends, including more accurate risk assessments to improve product adaptation and enhancement.

Rising inflation, global supply chain issues and skill shortages are persistent challenges across all sectors of the economy, resulting in higher replacement and repair costs, following an insurance claim. The net result is that policyholders may find themselves underinsured. This is because as prices rise, if an insured asset value has exceeded the value disclosed in the insurance policy, then the policyholder may find themselves underinsured and the condition of average may be applied in the settlement. Underinsurance may also occur in situations where the cost of materials and labour to reinstate a property might exceed the declared value of the property.

Brokers must guide policyholders

To mitigate the effects of the volatile economic landscape on insurance value considerations, it is recommended that policyholders engage in robust conversations and assessments of their insured values with their brokers on a regular basis. In a high inflation environment, the possibility of underinsurance – and the associated risk of applying the condition of average – needs to be carefully managed.

Moreover, policyholders in collaboration with their brokers should, assess whether the conditions and indemnity periods are tailored to the requirements of their business or personal insurance needs. This means checking whether business interruption indemnity periods factor in supply chain, raw material shortage or skills shortage challenges that may impact their business recovery after a claimable event.

Brokers must guide policyholders in insuring for the correct values. This will assist insurers to receive the correct premium for the risk and thereby mitigate against the policyholder being negatively financially impacted in the event of a claim.

ENDS