An Average Clause in a Fire Insurance Policy is an important feature of Fire Insurance Policy which Policyholders should understand.
What is the Average Clause in Fire Insurance Policy and how does it relate to Underinsurance?
Average Clause in Fire Insurance Policy is a very important clause in determining the amount of compensation that will be paid to the Insured. The Average Clause comes into play when the Policyholder has underinsured the Subject Property that is, the Policyholder has insured the property for a lesser value than its actual value. The Policyholder has thus deprived the Insurance Company of its rightful premium by declaring a Lower Sum Insured and thus paying a lesser premium.
In such cases, when a partial loss claim happens, the Insurance Company also deducts a proportionate amount to the extent of Underinsurance, while paying out a Claim. The Average Clause thus makes the Policyholder bear a proportionate amount of loss to the extent of Underinsurance.
The purpose of Average Clause is to encourage the Policyholders to insure their property for the full value rather than underinsuring the Property and trying to save the premium.
An Average Clause is also known as Underinsurance Clause.
Claim Amount Calculation under an Average Clause in a Fire Insurance Policy
If an Insured Party has underinsured the property by declaring a lower value, then the Insurance Claim will also be subject to deduction up to the extent of Underinsurance. This will be better illustrated with the help of an example.
Consider an Insured Property with an Actual Value of Rs5 Crores. The Policyholder has however declared the value of Rs4 Crores to the Insurance Company and got the Policy issued with a Sum Insured of Rs4 Crores.
The Policyholder has thus insured the Property only to the extent of 80% ((4/5)*100), thus resulting in an Underinsurance Percentage of 20%. Thus, in case of even a Partial Claim, the Claim Amount will be paid only to the extent of 80%. The remaining 20% of the loss will have to be borne by the Policyholder.
So, if there was a Partial Claim of Rs2 Crores, the Policyholder will be paid only 80% of the Claim Amount, that is 80% of Rs2 Crores which is Rs1.6 Crores.
The remaining 20% of the Loss, that is, Rs40 lakhs, will have to be borne by the Policyholder even though the Claim Amount is less than the Policy Sum Insured of Rs4 Crores.
The Formula to calculate the Claim Amount payable under an Average Clause is as follows:
Claim Amount = (Sum Insured/Actual Property Value) * Loss Amount
How can an Insured avoid being penalised under an Average Clause in Fire Insurance Policy?
The Insured should follow the below mentioned steps to avoid being penalised under the Average Clause in a Fire Insurance Policy:
Assess Property Value Properly
Many a times, the Insured Party do not underinsure their property deliberately to save premiums. The Underinsurance sometimes is also a result of lack of awareness of Actual Property Value as well as the Policy Terms and Conditions. The first step is to accurately determine the Property Value as per the terms and conditions of the Insurance Policy.
Declare Appropriate Property Values to the Insurance Company
The next step is to declare the appropriate property values to the Insurance Company and make sure that the same is reflected in the Insurance Policy.
Review Insurance Policy regularly
The Insured should review his Insurance Policy on a regular basis and also update the Property Values in the Policy to reflect the appropriate value. Many a times, the Property Values increase mainly on account of Inflation. The Insured does not update these values as the Policy is not reviewed on a regular basis. This leads to a nasty surprise at the time of a claim. It is thus a wise decision to review the Insurance Policy regularly and update the values.
Conclusion
Average Clause in a Fire Insurance Policy is an important feature of Fire Insurance and one that all the Policyholders should be aware of. It is important to read the Fire Insurance Policy wordings in detail to be aware of the Terms and Conditions of the Policy.
Qian is an experienced Fire Insurance Broker in India and can assist you with Comprehensive Fire Insurance Coverage. The team at Qian will also assist you with the entire Claims Process in a Fire Insurance Policy.
If you wish to purchase a Fire Insurance Policy, you can email us at insurance@qian.co.in or call us on 022-22044989.
We would be glad to assist you!