Multifamily Insurance Claims - The Good the Bad and the Ugly

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Having proper insurance coverage on your multifamily asset is critical and expensive. Yardi reported recently that insurance costs have increased 28% YOY. The average insurance cost per unit in the US is $636, but in some areas, it is much higher (Miami and Houston are paying $1,405 and $1,115, respectively). Commercial real estate claims are complex and subjective. You should take the time to understand your policy and make sure it will cover you in the case of a loss.

Before you have a claim, it is critical to understand what your coverages are and proactively follow risk mitigation policies. It is important to maintain your buildings and document their condition with up-to-date pictures. Something as simple as changing out a rubber washing machine hose every five years could prevent a flood that could cost thousands. You need to have regular fire system inspections and be aware of slip-and-fall scenarios. Take steps to minimize the chances of these adverse events. Following good preventive maintenance policies can lower the cost of insurance and help prevent losses.

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There are three main elements of your commercial property: comprehensive (buildings and structures), business interruption and liability coverage.

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"Financial interest of Insurance companies are best served by convincing policyholders to accept the lowest compensation possible." — Forbes

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In April 2023, we lost 20 units at our Avalon property due to a fire, so this is a topic near and dear to us. We had both comprehensive and business interruption claims. We immediately hired a public adjuster to help us dictate the cadence of the claim process and document and justify our claim to the insurance company. Skilled public adjusters know and price in costs that aren't apparent to those unfamiliar with insurance losses, like code implications or engineering and civil fees. For the comprehensive claim, the number one rule is do not start the rebuild until you have settled on the adjustment to be paid. Insurance companies are notorious for refusing to pay for parts of rebuilding after the fact due to lack of documentation, so it is critical to agree on the cost before starting. If we had gone out to a builder and asked for a quote to rebuild the building, we most likely would have received a very general 4-page estimate. Giving this level of detail to an insurance company gives them room to deny certain costs as not detailed in the estimate. They literally want every inch of the rebuild documented. Our adjuster submitted a 700-page estimate utilizing the same software that insurance companies use, which gave the insurance company zero room to squabble. Every screw and nail were accounted for. The other big negotiation is how much of the adjustment is paid up front to fund the rebuild. In our case we received a large portion of the adjustment very early in the process due to our negotiation.

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Business interruption coverage is not as straightforward as comprehensive, and very subjective. It is also the part of the claim that is slowest to be paid because they want to see actual performance and expenses that back up your claim. In your policy, if you have business interruption coverage there will be some language around the amount of time you will be covered for loss of income. In most cases it is up to 12 months. This used to be adequate, but now rebuilds are taking much longer to complete. Permitting alone can take 6 months or more. You should see how much it costs to get "undetermined time for restoration" rather than a fixed period because without this language, you will go without coverage for part of the time while the property is being rebuilt. Also, your policy should be for "actual loss sustained" and not limited by a stated figure.

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In the case where the property was being renovated to increase rents, trailing financials are not helpful in capturing what the true loss from the fire was. Our public adjuster put together a forensic accounting team that looked at budgets, planned growth, market competitors and actual performance of the rest of the property to put together a pro forma picture of what the P&L would have been if the fire hadn't occurred. In our case we were increasing rents post-renovation several hundred dollars and entering peak leasing season, so we had to build a case that both our occupancy level and rents would have increased substantially. We ended up justifying and getting a very favorable settlement.

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Insurance is a key part of multifamily investing, so it is important to understand what you are getting for your money and what risks are buried in the policy. Hopefully you will never need it, but if you are in this business for any length of time, eventually you will.

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