2.3 Coinsurance and the Coinsurance Formula
Key Takeaways
- Coinsurance penalizes underinsurance on partial losses; common percentages are 80%, 90%, and 100%.
- Formula: Claim = (Amount Carried / Amount Required) x Loss, where Amount Required = Value x Coinsurance %.
- Payment is always capped at the lesser of the actual loss or the policy limit — the #1 exam trap.
- Apply the coinsurance ratio first, then subtract the deductible.
- Agreed value suspends coinsurance; inflation guard helps keep limits current.
Why Coinsurance Exists
Most property losses are partial, not total. If underinsurance carried no penalty, owners would insure a $500,000 building for only $100,000, pay a small premium, and still recover most partial losses, starving the insurer of premium for the real exposure. The coinsurance clause corrects this by penalizing underinsurance on every partial loss, encouraging owners to insure to value.
Common coinsurance percentages: 80% (most common), 90%, and 100%.
The Coinsurance Formula
Claim Payment = (Amount Carried / Amount Required) x Loss
| Term | Meaning |
|---|---|
| Amount Carried | The policy limit actually purchased (the "did") |
| Amount Required | Property Value x Coinsurance % (the "should") |
| Loss | The actual damage amount |
A memory aid is "did over should, times loss." Two caps always apply: 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
- Building value: $500,000; coinsurance 80%; policy limit $400,000; loss $100,000.
- Amount Required = $500,000 x 80% = $400,000.
- Ratio = $400,000 / $400,000 = 100%.
- Claim = 100% x $100,000 = $100,000 - the full loss is paid.
Example 2 - Coinsurance Penalty
- Same building, but the owner carries only $300,000.
- Amount Required = $400,000; Amount Carried = $300,000.
- Ratio = $300,000 / $400,000 = 75%.
- Claim = 75% x $100,000 = $75,000.
The insured eats a $25,000 penalty on a $100,000 loss because they were a co-insurer for 25% of the exposure.
Example 3 - Loss Exceeds the Limit (the trap)
- Building value $1,000,000; coinsurance 80%; policy limit $700,000; loss $900,000.
- Amount Required = $1,000,000 x 80% = $800,000.
- Ratio = $700,000 / $800,000 = 87.5%.
- Formula result = 87.5% x $900,000 = $787,500.
- But the payment cannot exceed the $700,000 policy limit, so the insurer pays $700,000.
This is the most common exam trap: students apply the formula and forget the policy-limit cap. Always check both caps after computing the ratio.
Worked Total Settlement With a Deductible
Building value $200,000; coinsurance 80%; carried $120,000; loss $40,000; deductible $1,000.
- Amount Required = $200,000 x 80% = $160,000.
- Ratio = $120,000 / $160,000 = 0.75.
- Formula = 0.75 x $40,000 = $30,000.
- Subtract deductible: $30,000 - $1,000 = $29,000 paid.
Order matters: apply the coinsurance ratio first, then subtract the deductible.
Avoiding the Coinsurance Penalty
| Method | How it helps | Caveat |
|---|---|---|
| Carry adequate limits | Insure to at least the required % of value | Values drift; review annually |
| Agreed Value clause | Suspends coinsurance entirely | Needs appraisal / statement of values |
| Inflation guard endorsement | Auto-increases limits 4-8%/yr | Does not guarantee compliance |
Example 4 - Higher Coinsurance Percentage
A 100% clause is stricter than 80% because the required amount rises. Building value $600,000; coinsurance 100%; carried $480,000; loss $120,000.
- Amount Required = $600,000 x 100% = $600,000.
- Ratio = $480,000 / $600,000 = 0.80.
- Claim = 0.80 x $120,000 = $96,000; the $24,000 shortfall is the penalty.
The same $480,000 limit would have fully satisfied an 80% clause ($600,000 x 80% = $480,000) and paid the loss in full. Choosing a higher coinsurance percentage lowers the rate but raises the limit you must carry to avoid a penalty.
Insurance to Value (ITV)
ITV is the underwriting goal behind coinsurance: keeping limits aligned to current replacement cost. Underinsurance produces penalties; gross over-insurance wastes premium and never pays more than the actual loss. The coinsurance clause is the contractual lever that drives insureds toward proper ITV, and it resets on each loss, so a single adequate year does not protect a later, underinsured one.
Example 2 — Underinsurance Penalty
Coinsurance bites when the insured carries less than required:
- Building value $500,000; coinsurance 80%; policy limit $300,000; loss $100,000; deductible $1,000.
- Amount Required = $500,000 x 80% = $400,000.
- Ratio = $300,000 / $400,000 = 0.75.
- Payment = 0.75 x $100,000 = $75,000, then minus the $1,000 deductible = $74,000.
The insured "self-insures" the $25,000 shortfall as a coinsurance penalty because they carried only 75% of the required amount. The deductible is subtracted after the coinsurance calculation, not before.
Total Loss Removes the Penalty
The coinsurance formula applies only to partial losses. On a total loss, the insurer simply pays the policy limit (subject to ACV/RCV valuation and any valued-policy law). This is why the clause is described as a partial-loss device — and why owners can be lulled into underinsuring until a partial loss exposes the gap.
Agreed Value Suspends Coinsurance
The Agreed Value option (ISO CP 04 40 / declarations entry) suspends the coinsurance clause entirely: the insurer and insured agree on a value in advance, supported by a statement of values, and partial losses are paid in full up to the limit with no ratio penalty. It is the cleanest way to avoid coinsurance surprises on hard-to-value property.
Why "Did Over Should" Wins Points
Every coinsurance question reduces to comparing what the insured carried with what they should have carried. Build the fraction, multiply by the loss, cap at the lesser of loss or limit, then subtract the deductible. Memorizing that four-step order — and that total losses skip step one — converts the most feared property topic into reliable points.
A building is worth $1,000,000 with an 80% coinsurance clause. The owner carries $600,000 and suffers a $200,000 loss. Ignoring any deductible, how much does the insurer pay?
Which statement about the coinsurance formula is correct?