5.2 Section I Covered Perils, Major Exclusions & 80% Replacement Cost Settlement

Section I Covered Perils, Major Exclusions & 80% Replacement Cost Settlement

Exam Focus: On the New York Series 17-70 exam, adjusters must master the distinction between named perils and open perils (including who carries the legal burden of proof), the precise application of anti-concurrent causation to water damage and earth movement, and the exact mathematical calculation of the 80% replacement cost coinsurance formula.

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Evolution of Covered Perils: Basic vs. Broad vs. Special

Property insurance policies categorize covered causes of loss into three recognized levels of peril coverage:

1. Basic Perils

The basic peril tier covers 11 specific, named causes of loss (frequently remembered by the acronym FL W-C-S-H-A-V-V-E-R plus V&MM and Theft):

• Fire and Lightning
• Windstorm and Hail (excludes interior water damage unless wind or hail first damages the exterior roof or walls, creating an opening through which water enters)
• Civil Commotion and Riot
• Smoke (sudden and accidental; excludes smoke from agricultural smudging or industrial operations)
• Aircraft (physical contact with aircraft or falling objects from aircraft)
• Vehicles (physical contact with vehicles; excludes damage caused by vehicles owned or operated by an occupant to fences, driveways, or walks)
• Volcanic Action (airborne blast, shock waves, ash, dust, or lava flow; excludes earthquake or earth tremor)
• Explosion
• Vandalism or Malicious Mischief (V&MM) (excludes loss if dwelling has been vacant for 60 consecutive days prior to loss)
• Theft (including attempted theft and loss of property from a known place when likely stolen)

2. Broad Perils

The broad peril tier includes all Basic Perils plus six additional named perils (commonly remembered by the mnemonic BIG AFFECT):

• Burglary damage (damage to the premises caused by burglars; excludes property taken by burglars)
• Ice, snow, or sleet (Weight of): Damage to a building or property inside; excludes outdoor awnings, fences, patios, pavements, swimming pools, foundations, retaining walls, piers, wharves, or docks.
• Glass breakage (breakage of glass or safety glazing material forming part of a building)
• Accidental discharge or overflow of water or steam: Sudden release from within a plumbing, heating, air conditioning, or automatic fire sprinkler system, or household appliance. Excludes continuous seepage, sump pump overflow, or sewer backup.
• Falling objects: Covers damage to building and contents, provided the falling object first damages the exterior roof or an exterior wall. Damage to the falling object itself is excluded.
• Freezing of plumbing: Freezing of plumbing, heating, air conditioning, or fire sprinkler systems, provided the insured used reasonable care to maintain heat in the building or shut off the water supply and drained the system.
• Electrical damage (artificially generated): Sudden and accidental damage from artificially generated electrical current; excludes loss to tubes, transistors, electronic components, or computer chips.
• Tearing apart, cracking, burning, or bulging: Sudden and accidental rupture of a steam or hot water heating system, air conditioning system, or water heater.

3. Special Perils (Open Perils / Risk of Direct Physical Loss)

Under the Special Perils design (used for Coverages A & B on the HO-3, and Coverages A, B, and C on the HO-5), property is insured against all direct physical loss except causes of loss that are expressly excluded.

The Critical Burden of Proof

The procedural distinction between named perils and open perils is a core exam concept for claims adjusters:

• Named Perils (HO-2, HO-4, HO-6, HO-8, and HO-3 Coverage C): The insured bears the legal burden of proof. The policyholder must demonstrate by a preponderance of the evidence that the damaged property suffered direct physical loss caused by an explicitly listed, enumerated peril.
• Open Perils (HO-3 Coverage A & B, HO-5 all coverages): The insured only needs to demonstrate that a direct physical loss occurred to covered property during the policy period. The insurer bears the affirmative burden of proving that the cause of loss is excluded under the policy terms. If the insurer cannot establish an applicable exclusion, coverage applies.

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Major Section I Exclusions & Anti-Concurrent Causation

Standard ISO homeowners policies contain a mandatory list of General Exclusions under Section I. Many of these exclusions are subject to the Anti-Concurrent Causation (ACC) clause. Under this doctrine, if an excluded event (such as flood or earth movement) contributes concurrently or in any sequence with a covered event to cause the loss, the entire loss is excluded, regardless of any other contributing cause or event.

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Loss Settlement Provisions: The 80% Coinsurance Rule

Under ISO Homeowners forms (HO-2, HO-3, HO-5, HO-6), building losses under Coverage A and Coverage B are settled on a Replacement Cost (RC) basis—meaning no deduction is taken for depreciation—provided the insured meets the 80% Coinsurance Requirement.

How the 80% Rule Operates

To receive full replacement cost settlement up to the policy limit: $\text{Required Insurance} = \text{Full Replacement Cost of Dwelling} \times 80\%$

1. If the insured carries 80% or more: The insurer pays the full replacement cost of the repair or replacement of the damaged portion, up to the policy limit, subject only to the deductible: $\text{Settlement} = \text{Lesser of (Replacement Cost of Loss, Policy Limit)} - \text{Deductible}$
2. If the insured carries less than 80% (Underinsured): The insurer will pay the greater of:
   • Actual Cash Value (ACV) of the damaged property: $\text{ACV} = \text{Replacement Cost} - \text{Depreciation}$
   • The Coinsurance Formula: $\text{Recovery} = \left( \frac{\text{Insurance Carried}}{\text{Insurance Required}} \right) \times \text{Replacement Cost of Loss} - \text{Deductible}$ (where Insurance Required equals 80% of the dwelling replacement cost)

Comprehensive Adjuster Coinsurance Calculation

Scenario:

• Dwelling Full Replacement Cost at time of loss: $500,000
• Insurance Required (80% of $500,000): $400,000
• Insurance Actually Carried (Coverage A Limit): $300,000
• Policy Deductible: $1,000
• Direct Physical Fire Loss (Replacement Cost to repair): $40,000
• Depreciation on damaged materials: $15,000

Step 1: Determine Coinsurance Compliance The insured carries $300,000, which is less than the required $400,000 (the insured carried only 75% of the required coverage). The insured is penalized as a coinsurer.

Step 2: Calculate ACV of the Loss $\text{ACV} = \$40,000 - \$15,000 = \$25,000$

Step 3: Calculate the Coinsurance Formula Amount $\text{Formula Recovery} = \left( \frac{\$300,000}{\$400,000} \right) \times \$40,000 = 0.75 \times \$40,000 = \$30,000$

Step 4: Select the Greater Amount and Apply the Deductible The greater of ACV ($25,000) and the Coinsurance Formula ($30,000) is $30,000. $\text{Final Claim Payment} = \$30,000 - \$1,000 = \mathbf{\$29,000}$ Because the policyholder failed to maintain 80% insurance to value, they absorb a $10,000 coinsurance penalty ($40,000 loss minus $30,000 formula payment) in addition to their $1,000 deductible.

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Coverage C Loss Settlement: ACV vs. Replacement Cost Endorsement

In an unendorsed homeowners policy, personal property losses under Coverage C are settled strictly on an Actual Cash Value (ACV) basis, accounting for age, physical wear, and economic obsolescence.

• Personal Property Replacement Cost Loss Settlement Endorsement (HO 04 90): Insureds can endorse their policy to settle personal property losses at full replacement cost without depreciation.
• Endorsement Exceptions: Even with HO 04 90 attached, certain categories remain settled at ACV: antiques, fine arts, paintings, memorabilia, souvenir items, articles that cannot be replaced with new articles of like kind and quality, and items whose age or history contributes substantially to their value.