CONDOMINIUM DEDUCTIBLE COVERAGE

Rough Notes, Feb 2005 by Harrington, Joseph S

A tug-of-war between personal and commercial lines

Few people other than condominium insurance specialists are aware of it, and some of them may not recognize it as such, but there is a tug-of-war under way in residential condominium insurance.

For years, there have been often-uncoordinated efforts to shift exposures between commercial policies covering condominium associations and unit owners policies covering individual residences. This tug-of-war may have intensified in recent years as the market has hardened for condominium association "master" policies.

Master policies provide coverage for the collectively owned property of condominium associations and, in many cases, permanent fixtures in individually owned units. Master policies also generally provide liability and fidelity coverage for the association and its board members.

Premiums for master policies have reportedly skyrocketed in recent years. In response, condominium associations have accepted substantially higher deductibles. Master policy deductibles are commonly set at $5,000 to $10,000. Deductibles up to $50,000 are not uncommon, however, and shoreline properties have been reported to have deductibles as high as $250,000.

The cost of these deductibles is frequently passed along to individual unit owners, but the manner in which they are passed along, as well as other insurance obligations of condominium residents, can vary greatly from community to community, depending on the bylaws, declarations, and practices of each condominium association.

Given the variation in policies and practices by insurers and condominium associations, there are unresolved questions as to whether or not and how a unit owners policy should respond to losses arising from master policy deductibles.

Virginia action

The state of Virginia in 2003 enacted a law making a condominium unit owner responsible for a master policy deductible related to any loss arising from the owner's unit, whether or not the owner's actions or negligence caused the loss.

In response to that statute, the American Association of Insurance Services (AAIS) developed an endorsement for adding "association deductible coverage" onto a homeowners or mobile homeowners policy.

Although developed with condominiums in mind, the AAIS endorsement can be used for any type of one- to four-family residence that has insurance obligations as part of a homeowners association.

The association deductible endorsement was filed in Virginia at the request of the Virginia Bureau of Insurance and was made available throughout the rest of the country on an advisory basis only. The Virginia law was subsequently repealed, but the endorsement remains on file there.

In the meantime, AAIS is reviewing the issue of association deductible coverage as it prepares a comprehensive revision of its Homeowners Program.

Single entity shift

Throughout the prolonged soft market for residential insurance, there was a steady progression from "bare walls" to "single entity" coverage for residential condominium buildings. This shift was, in effect, a shift in coverage of real property pertaining to a household from personal lines policies to commercial ones.

Under a bare walls master policy, the condominium association insures only the structure of the condominium building(s), plus the structure, fixtures, and furnishings of collectively owned areas, as well as the personal property of the association. Under a bare walls approach, owners of individual units are on their own to insure building property of units they own and use exclusively, such as sinks, cabinets, and flooring, in addition to their personal property.

Over time, bare walls master policies were supplanted by single entity condominium association policies that cover virtually all building property in a residential condominium structure, including fixtures in individually owned units.

In turn, single entity master policies evolved from providing "original specs" coverage, which insured only the original fixtures in condominium units, to "all-in" coverage that insures all permanent fixtures, including those added or substituted by residents. It is unclear what percentages of single entity master policies offer original specs or all-in coverage.

Under the standard language of unit owners policies, their building property coverage becomes excess over any other insurance covering the insured property, such as a commercial master policy providing single entity coverage. (Note: The AAIS Homeowners Program provides a Form 6, which is analogous to the HO-6 developed by the Insurance Services Office.)

Claims handling varies

Faced with increased losses and hard market conditions, insurers of condominium association master policies have instituted higher deductibles to eliminate small claims. There is little evidence, however, that they are backing away from offering single entity coverage.

Insurance companies differ in how they respond to claims under unit owners coverage arising from master policy deductibles.