2.3 Coinsurance and the Coinsurance Formula
Key Takeaways
- Coinsurance requires the insured to carry insurance equal to a stated percentage (usually 80%, 90%, or 100%) of the property's value at the time of loss.
- Coinsurance formula: (Amount Carried ÷ Amount Required) × Loss = Claim payment, where Amount Required = Value × Coinsurance %.
- The penalty applies to PARTIAL losses and reduces the payment proportionally; it does not punish the insurer's full payment of a properly insured total loss.
- Payment is always capped at the lesser of the actual loss or the policy limit, and the deductible is subtracted afterward.
- Agreed Value endorsements, inflation-guard, and annual value reviews are the standard defenses against a coinsurance penalty.
Why Coinsurance Exists
Most property losses are partial, not total. Without a penalty for underinsurance, an owner could insure a $500,000 building for only $100,000, pay a fraction of the premium, and still fully recover small partial losses — leaving the insurer collecting too little premium for the real exposure. The coinsurance clause fixes this by requiring the insured to carry coverage equal to a stated percentage of the property's value. Carry less, and the insured becomes a co-insurer who shares every partial loss.
Common coinsurance percentages: 80% (most common), 90%, and 100%. The higher the required percentage, the larger the premium credit — but the bigger the penalty for falling short.
The Coinsurance Formula
Claim Payment = (Amount Carried / Amount Required) x Loss
| Term | Meaning |
|---|---|
| Amount Carried | The policy limit actually purchased ("did") |
| Amount Required | Property Value × Coinsurance % ("should have") |
| Loss | The actual amount of the partial loss |
Memory aid: “did over should, times the loss.” Two caps always apply afterward: the payment can never exceed the actual loss or the policy limit, whichever is less. The deductible is then subtracted from the result.
Example 1 — Requirement Met (No Penalty)
- Building value $500,000; coinsurance 80%; policy limit $400,000; loss $100,000.
- Amount Required = $500,000 × 80% = $400,000.
- Ratio = $400,000 ÷ $400,000 = 100%.
- Claim = 100% × $100,000 = $100,000 — the full loss is paid (less any deductible).
Example 2 — Underinsured (Penalty Applies)
- Same building and 80% requirement, but the owner carries only $300,000; loss $100,000.
- Amount Required = $400,000; Amount Carried = $300,000.
- Ratio = $300,000 ÷ $400,000 = 75%.
- Claim = 75% × $100,000 = $75,000.
- The insured absorbs the $25,000 shortfall as a co-insurer penalty.
A building is valued at $500,000 with an 80% coinsurance clause. The owner carries $300,000 of coverage and suffers a $100,000 loss. Ignoring any deductible, what does the insurer pay?
Example 3 — Policy-Limit Cap
The formula can produce a number larger than the policy limit; the limit always wins.
- Building value $500,000; coinsurance 80%; policy limit $450,000; loss $480,000.
- Amount Required = $400,000; Amount Carried = $450,000, so the ratio is 100% (capped at 100% — never more).
- Formula result = 100% × $480,000 = $480,000, but the policy limit is $450,000.
- Payment = $450,000 (limited by the policy limit), less deductible.
Exam trap: When the amount carried meets or exceeds the requirement, the coinsurance ratio is 100% — you never apply a ratio above 100%. The cap on every claim is the lesser of the loss or the policy limit.
Suspending and Avoiding the Penalty
Because property values rise and a one-time appraisal goes stale, several tools protect the insured:
- Agreed Value endorsement — the insurer agrees the limit satisfies coinsurance; the clause is suspended for the policy term.
- Inflation-Guard endorsement — automatically increases the limit by a set percentage during the term to keep pace with rising replacement costs.
- Annual value reviews — the agent re-rates the building so the limit keeps up with the coinsurance requirement.
Insurance-to-Value (ITV) = Amount of Insurance ÷ Property Value. Reaching the coinsurance percentage (e.g., 80% ITV) is exactly what avoids the penalty.
Which endorsement, when added to a commercial property policy, SUSPENDS the coinsurance clause for the policy term?
Blanket Coverage, Margin Clauses, and the Coinsurance Trade-off
When one insured owns several buildings or locations, a blanket limit can apply to all of them combined rather than scheduling a separate limit per item. Blanket coverage is attractive because the full blanket limit is available at any single location, smoothing out valuation errors between properties. The trade-off is a higher coinsurance requirement — frequently 90% — and the need for a Statement of Values filed with the insurer. To curb abuse of blanket limits, insurers may attach a Margin Clause (CP 12 32) capping recovery at the reported value of the damaged property times a stated factor (e.g., 110%).
The coinsurance decision is fundamentally an economics trade-off: higher coinsurance percentages earn larger premium credits but expose the insured to a steeper penalty if values rise unchecked. An insured who picks 90% coinsurance to save premium, then lets values drift, can face a larger shortfall than one who chose 80%.
Final exam reminder: the coinsurance penalty only ever applies to partial losses. On a total loss, the insured collects the policy limit (or full value if higher coverage existed) regardless of the coinsurance ratio, because the limit already capped recovery. Do not apply the ratio to a total loss in an exam fact pattern.