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“Much Ado” About Insurance Requirements: When Loan Originators Think Like Insurance Underwriters, We All Sleep Better at Night A publication of Autumn issue 2014 sponsored by CRE Finance World Autumn 2014 35 A. Covered Causes of Loss When Special is shown in the Declarations, Covered Causes of Loss means Risks Of Direct Physical Loss unless the loss is: 1. Excluded in Section B., Exclusions; or 2. Limited in Section C., Limitations; that follow. B. Exclusions 1. We will not pay for loss or damage caused directly or indirectly by any of the following. Such loss or damage is excluded regardless of any other cause or event that contributes concurrently or in any sequence to the loss. a. Ordinance or Law The enforcement of any ordinance or law: (1) Regulating the construction, use or repair of any property; or (2) Requiring the tearing down of any property, including the cost of removing its debris. This exclusion, Ordinance or Law, applies whether the loss results from: (1) An ordinance or law that is enforced even if the property has not been damaged; or (2) The increased costs incurred to comply with an ordinance or law in the course of construction, repair, renovation, remodeling or demolition of property, or removal of its debris, following a physical loss to that property. Ordinance or Law endorsements (e.g., ISO CP 04 05) fill that coverage void by granting coverage according to the following provisions: 1. Coverage A — Coverage for Loss to the Undamaged Portion of the Building With respect to a building that has sustained covered direct physical damage, we will pay under Coverage A for the loss in value of the undamaged portion of the building as a consequence of enforcement of an ordinance or law that requires demolition of undamaged parts of the same building. 2. Coverage B — Demolition Cost Coverage With respect to a building that has sustained covered direct physical damage, we will pay the cost to demolish and clear the site of undamaged parts of the same building, as a consequence of enforcement of an ordinance or law that requires demolition of such undamaged property. 3. Coverage C — Increased Cost of Construction Coverage a. With respect to a building that has sustained covered direct physical damage, we will pay the increased cost to: (1) Repair or reconstruct damaged portions of that building; and/or (2) Reconstruct or remodel undamaged portions of that building, whether or not demolition is required; when the increased cost is a consequence of enforcement of the minimum requirements of the ordinance or law. However: (1) This coverage applies only if the restored or remodeled property is intended for similar occupancy as the current property, unless such occupancy is not permitted by zoning or land use ordinance or law. (2) We will not pay for the increased cost of construction if the building is not repaired, reconstructed or remodeled. If you are now starting to feel a slight sense of panic, you read this policy language correctly. In effect, it says that if your property is damaged at or above the local threshold and you do not have full Ordinance or Law coverage (Coverage A, B, and C) you stand to lose three times; once for the value of the undamaged portion of your building that has to be torn down to meet current building codes, once for the cost of demolishing the undamaged portion of your building, and once for the increased cost of construction you may incur to rebuild up to the new building code standards. Insurance Limits With respect to property insurance, loan documents typically require the property to be insured to full replacement cost. In most instances, this does not cause a problem because there is sufficient capacity in the marketplace to provide replacementcost coverage at a reasonable price. However, for properties in catastrophe-prone areas, this can sometimes be a problem and the borrower will offer coverage limits that are less than full replacement cost, based on Probable Maximum Loss (PML) or Scenario Expected Loss (SEL) studies that purport to show the unpaid principal balance will be covered in the event of a catastrophic loss. While these studies can provide a reasonably reliable estimate of expected loss for earthquake risk, they are not widely acknowledged to be reliable for windstorm exposure. Accordingly, if the customer requests that the coverage for the loan be provided on a blanket policy or on some basis less than full replacement cost, the loan


CREFW-Fall2014 10.15.14
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