2.3 Coinsurance and the Coinsurance Formula

Coinsurance: Insurance to Value

Coinsurance is a clause that requires the insured to carry property limits equal to a stated percentage of the property's value — most often 80%, 90%, or 100%. Its purpose is to discourage underinsurance: because most losses are partial, an insured who buys a low limit would otherwise pay a small premium yet collect nearly full value on common small claims. Coinsurance forces insurance to value.

If the insured carries at least the required amount, partial losses are paid in full (subject to limit and deductible). If the insured carries less, the coinsurance penalty applies and the insured becomes a co-insurer of the shortfall.

The Coinsurance Formula

Payment = (Limit Carried ÷ Limit Required) × Loss − Deductible

Where Limit Required = Property Value × Coinsurance %. The payment can never exceed the policy limit. The phrase to memorize is “did over should” — the amount you did carry over the amount you should have carried.

Worked Example — Underinsured

A commercial building is worth $500,000 with an 80% coinsurance clause. The owner carries only $300,000 and suffers a $100,000 covered loss with a $1,000 deductible.

The insured eats $26,000 — the $25,000 penalty plus the $1,000 deductible — for being underinsured.

Worked Example — Properly Insured

Same building, but the owner carries $400,000 (exactly 80% of value). For the same $100,000 loss:

• Ratio = $400,000 ÷ $400,000 = 1.00 (no penalty)
• Payment = $100,000 × 1.00 − $1,000 deductible = $99,000

Meeting or exceeding the requirement removes the penalty entirely.

Tested Nuances

• Value is measured at the time of loss, not when the policy was written — inflation can quietly drop an insured below the threshold.
• The penalty applies to partial losses; a total loss simply pays the policy limit.
• The Agreed Value option (CP form) suspends coinsurance: the insurer accepts a signed statement of values and pays partial losses in full, removing the math.
• Replacement cost + coinsurance measures the requirement against replacement cost, not ACV.
• Carrying more than required does not produce a bonus — the ratio caps at 1.00.

Coinsurance on Business Income

Coinsurance also appears on business income coverage, but the base is different: the required limit is a percentage (50%, 60%, 70%, 80%, 90%, 100%, 125%) of the insured's projected 12-month net income plus continuing operating expenses, not the building value. Underinsuring triggers the same did-over-should penalty. Many insureds elect the Monthly Limit of Indemnity or Maximum Period of Indemnity options instead, which remove business-income coinsurance entirely in exchange for a payout cap.

Common Coinsurance Distractors

• "Coinsurance penalizes the insured on a total loss." False — total losses pay the limit; the penalty only bites on partial losses.
• "Carrying 100% of value earns a larger payment." False — the ratio caps at 1.00; over-insuring never pays a bonus.
• "Coinsurance is the same as a deductible." False — coinsurance is an insurance-to-value requirement; the deductible is a separate first-dollar retention applied after the ratio.

Step-by-Step Recap

Why Insurers Use It

Coinsurance keeps premiums equitable. Because roughly 70-75% of property losses are partial, an insured who bought a small limit would pay far less premium yet recover almost fully on the common small claim, shifting cost onto fully insured policyholders. The clause aligns premium with exposure and nudges insureds to keep limits current with inflation, which is why agents recommend an inflation-guard endorsement that raises the limit automatically each term to prevent a silent coinsurance shortfall at the time of loss.

Reading a Coinsurance Question Quickly

Most coinsurance items follow the same shape: the stem gives a property value, a coinsurance percentage, a limit carried, a loss, and a deductible, then asks for the payment. Train yourself to compute the required limit first, form the did-over-should ratio, cap it at 1.00, multiply by the loss, subtract the deductible, and finally check the policy limit. The most common wrong answer applies the ratio to the limit rather than the loss, or forgets that a total loss ignores the penalty and simply pays the limit.

A second frequent trap inserts inflation: the building was insured to value when written but has appreciated by the time of loss, so the insured slips below the required percentage and is penalized despite never lowering the limit, which is precisely why inflation-guard endorsements exist. Working a handful of these to automaticity is the single highest-yield drill for the property portion of the exam.