The Purpose of the 80% Coinsurance Clause
In the world of property insurance, the coinsurance clause is a mechanism used by insurers to encourage policyholders to insure their property for its full value. For the complete Independent Adjuster exam guide, you must understand that most homeowners and commercial property policies require the insured to carry a limit of insurance equal to at least 80% of the property's replacement cost at the time of the loss.
If the insured fails to maintain this level of coverage, they are effectively choosing to self-insure a portion of every loss. When a claim occurs, the insurance company will apply a penalty, meaning the payout will be less than the actual damage sustained, even if the loss is below the total policy limit. Mastering this calculation is essential for passing the practice Independent Adjuster questions found on the state exam.
The Three Key Variables
The 'Did Over Should' Formula
To solve any coinsurance problem on the exam, you must memorize the "Did over Should" formula. This formula determines the percentage of the loss the insurance company is responsible for paying.
The formula is expressed as follows:
- Step 1: Determine the "Should" amount (Replacement Cost × 0.80).
- Step 2: Divide the "Did" amount (Actual Policy Limit) by the "Should" amount.
- Step 3: Multiply that fraction by the amount of the loss.
- Step 4: Subtract the deductible from the result.
The Formula: (Did / Should) x Loss = Claim Payment (before deductible).
Scenario: Meeting vs. Missing the Requirement
| Feature | Scenario A (Requirement Met) | Scenario B (Requirement Missed) |
|---|---|---|
| Replacement Cost | $200,000 | $200,000 |
| Required (80%) | $160,000 | $160,000 |
| Limit Carried (Did) | $160,000 | $120,000 |
| Amount of Loss | $40,000 | $40,000 |
| Payout (Pre-Deductible) | $40,000 | $30,000 |
Breaking Down the Math Penalty
Let's look closely at Scenario B from the chart above. The insured had a house worth $200,000. To meet the 80% requirement, they should have carried $160,000 in coverage. However, they only carried $120,000 (the did).
Using the formula:
- Did ($120,000) / Should ($160,000) = 0.75
- 0.75 x Loss ($40,000) = $30,000
In this case, the insured is only paid $30,000 for a $40,000 loss because they were only carrying 75% of the required insurance amount. The $10,000 difference is known as the coinsurance penalty. As an independent adjuster, you must be able to explain this clearly to a policyholder who may be confused about why their full loss isn't being covered.
Exam Tip: The Policy Limit Cap
Remember that the insurance company will never pay more than the policy limit (the "Did" amount), regardless of the coinsurance calculation. If the math results in a number higher than the policy limit, the payout is capped at the limit stated in the declarations page.
Frequently Asked Questions
In the event of a total loss where the building is completely destroyed, the coinsurance clause is generally irrelevant because the insurer will simply pay the face value (limit) of the policy. Coinsurance is primarily a factor in partial losses.
The replacement cost is determined at the time of the loss, not at the time the policy was purchased. This is why it is vital for homeowners to update their limits periodically as construction costs and property values rise.
Standard industry practice (and the standard exam answer) is to apply the coinsurance penalty to the loss first, and then subtract the deductible from that resulting amount.
Yes. While 80% is the most common requirement for residential policies, commercial policies often utilize 90% or even 100% coinsurance requirements, depending on the risk and the rate the insured wants to pay.