What Would Rent Insurance Be If There Were Such A Thing?

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So, the lease requires the tenant to carry a policy of “rent insurance” or requires the landlord to carry a policy of “rent insurance” or, worse, requires both of them to do so. What does that policy say and how does it work?

Trick question! You won’t find a rent insurance policy. You may find a commercial property insurance endorsement providing coverage for “rental value,” but don’t look for “rent insurance.” While you are at it, don’t call it: “rental interruption insurance,” “rent loss insurance,” or “rental income insurance.” Those are nice concepts, but lack any precise meaning. If you want to call it “use and occupancy insurance,” go ahead, but that form of policy is long, long gone.

Here are two overriding, substantive points – ones that are often ignored, with costly, unintended outcomes. First, coverage for “rental value” is part of a property insurance policy. It is available, if elected, as part of Business Income coverage. That means you first have to buy Business Income coverage. It also means that if there is no physical damage to the insured property, absent specialized additional coverage (such as Contingent Business Interruption coverage for when another property experiences physical damage or such as Utility Services Interruption coverage), you don’t get paid for “rental value.” That’s because, whatever you call it, correctly or not, this insurance coverage is not credit insurance – it is a part of a property insurance policy.

Second, and very, very important, if the rent isn’t abated upon the happening of insured property damage, the premium a landlord has paid to cover “rental value” is “down the gutter” because the landlord’s insurance company never has to pay. If rent does abate, the premium a tenant paid to cover “rental value” is, likewise, “down the gutter” because the tenant’s insurance company never has to pay. More about that later.

As noted earlier, to get “rental value” coverage (which we’ll define in a little while), you need to have “Business Income” coverage. Most commercial property insurance policies are written on forms promulgated by the Insurance Services Office (ISO), an insurance industry trade group, and many that are not on those forms are based on them anyway. The ISO has two relevant forms: its “Business Income (And Extra Expense)” Coverage Form CP 00 30; and its “Business Income (Without Extra Expense)” Coverage Form CP 00 32.

Coverage for “rental value” does not come automatically; it must be elected. That makes the “Declaration” page of an insurance policy pretty important. The Declaration page is like a checklist. It shows what coverage forms (such as the Business Income forms) are part of the policy (remember, if it’s not listed on the Declaration page, it isn’t a part of the policy even if you are holding the form in your hands); it shows coverage limits; and, it shows certain “elections,” such as whether the policy includes “rental value” coverage at all. So, if you want to know if you (or your landlord or tenant or borrower) have “rental value” or any other particular coverage, you’ll want to read the policy’s Declaration page.

Here’s a little bit more information before we get to the practical side of negotiating for “rental value” coverage.

“Rental value” has a slightly different definition when used in a tenant’s insurance policy than when used in a landlord’s insurance policy, but gets you to the same point. In each case, “rental value” coverage encompasses both the basic rent as well as whatever amounts a tenant would have paid on account of operating expenses, taxes, and the like. In addition, the term includes payment for other items a tenant would have been paying had it not been for damage from an insured peril. That means, by way of example, it covers utility bills the tenant would have been paying. The landlord’s policy would also cover the fair rental value of its self-occupied premises (such as for a leasing office) on the theory that the landlord would be taking temporary, replacement space elsewhere. That’s one small reason a landlord should prefer to be the one holding the policy with “rental value” coverage.

Basically, “rental value” coverage kicks in when the rent stops by reason of the casualty and ends when the rent begins again, subject to some nuances. There are some differences between how this works for a landlord’s policy and how it works for a tenant’s policy. One nuance is that the insurance carrier is going to stop paying when the rent “should have restarted.” So, for a landlord, if it drags its feet, the policy will stop paying at the point the restoration would have been completed had the landlord been diligent. A tenant’s policy, on the other hand, should not penalize the tenant for its landlord’s foot dragging. Keep in mind, however, if the rent hasn’t abated upon the occurrence of damage, then the tenant has to keep paying rent. So, if the landlord drags its feet or interferes with its tenant’s restoration, the tenant may have a “delay” claim against its landlord. In such a case, the tenant’s insurance company, upon reimbursing the tenant for the rent, would be able to step into its insured’s shoes and take the claim over. How this plays out in a lease with a provision calling for a waiver of claims for property damage is too much for this Ruminator to figure out.

Another nuance is that one has to choose coverage limits for “rental value,” typically by stating the number of months of coverage – 12 or 18 being pretty common – or by stating a dollar limit. One last nuance is that a standard policy would for allow 30 extra days of “rent” abatement payments beyond re-delivery of the restored premises so that the tenant can re-fixture its premises. If one elected for a given number of months of coverage, then the 30 days is above and beyond that time limit if the time limit has been reached. If one elected a dollar limit, the “extra” 30 days is within the limit.

You can “buy” more than 30 days “extra.” Also, there is a short period following the damage before coverage starts.

We won’t introduce “extra expense” concepts because those aren’t really lease related, but when you speak with someone who really, really understands all of this (and that’s not us), you can find out about the concept of “suspension of operations” and how the insured (almost always, for such coverage, a tenant) can get insurance to compensate itself while it ramps up its business to pre-damage levels.

Now, to the practical. First, this is complicated (read that – tricky) coverage. So, ask a truly competent insurance professional to “teach you” about it. If you don’t understand how “rental value” coverage works, you’ll be wasting your team’s time (and money) and the other team’s time (and money) in negotiations by making up “stories” about how you can’t do this or that and about how the other side shouldn’t worry because “insurance covers that.” You may also damage your own credibility, and that shouldn’t be taken lightly.

Next, remember that if the rent abates and you, as a landlord, insist that the tenant have “rental value” coverage, then you’ve negotiated for “nothing” because if your tenant experiences no loss – the rent stopped – its carrier never has to pay. The flip side is that if the rent doesn’t abate, and the landlord has “rental value coverage,” its carrier won’t have to pay because the tenant has to pay.

If the tenant has to obtain and maintain “rental value” coverage (and, as we now know, the rent doesn’t abate), its landlord will want to be an “Additional Insured” as to the “rental value” coverage. By the way, that isn’t the same as being a “loss payee.” Get a copy of the endorsement and a copy of the tenant’s policy Declaration page to make sure the endorsement is listed on it. Look for the specific Landlord as Additional Insured (Rental Value) endorsement [form CP 03 15].

Now, for the most important tip. Landlords should maintain this coverage, not leave it to their tenants to have it. Then, as a landlord, you get to choose and control the coverage. And, don’t forget, tenants directly or implicitly reimburse their landlords for this part of the property insurance premium. Next, don’t forget, the rent should abate. If not, a landlord’s insurance policy will not cover the rent – you’ll be depending on an out-of-business tenant to continuing paying for useless premises. What is more, almost all landlords already have “rental value” coverage because most lenders require that it be carried. That being the case, why should two companies collect a premium (the landlord’s and the tenant’s) if only one of them will ever have to pay? Also, from a landlord’s perspective, why take the risk that the tenant didn’t get the right coverage? You can get the right coverage and the tenant is going to pay anyway. As to the mistaken notion that “our insurance costs will go up,” drop that thought. Even if that were the way the insurance market worked (and, it really doesn’t), you already had “the fire.”

Last week, I had the great pleasure, once again, to attend a Spring CLE Symposia of the Real Property, Trusts and Estate Section of the American Bar Association. If you aren’t a member, and there are memberships for attorneys and associate memberships for non-attorneys in allied fields, you really ought to look at this: http://tinyurl.com/cl2vwdg. If you are a member of the ABA, consider joining the Section. If are a Section member, consider coming to Chicago next Spring for the 2104 Symposia. This is an unpaid endorsement.

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Comments

  1. We have been able, in the past ten years in Turkey, to provide for clauses in leases which make a provision for covering insurance costs that protect the landlord against “loss of income”. The conditions on which such lss can be based are, however, not as certain as the wording in the leases and it is very difficult to persuade insurance companies that such loss of income has arisen in spite of full goodwill of both parties-landlord and tenant. The crux of the matter lies, in my opinion, on the coverage in leases for definition of conditions “beyond the controlf of both parties”; however I would question the validity of such contol matters in questions related to cases such as the 2008-2009 crisis. It seems to me that such loss arises from “normal business risk” and should not be a subject of insurance.

  2. Your comment raises an important point. Insurance is a contractual relationship and is governed by the terms of the insurance agreement, i.e., the “policy.” It’s difficult enough understanding how policies work in the United States; living in the United States and trying to understand what is “normal” elsewhere, as in Turkey, is near to impossible. If the Unite States insurance market has been an influence in Turkey or elsewhere, then one wouldn’t expect thee to be any Business Income coverage for economic turndowns, only for traditional physical destruction-related business interruptions or suspensions. For that reason, real insurance questions should always be directed to “real” commercial insurance professionals – brokers, agents or consultants, ones who deal in commercial insurance issues every day.

  3. Stephan L. Cutler says:

    Ira,

    I had a question about the following passage in this week’s article.

    “If the tenant has to obtain and maintain “rental value” coverage (and, as we now know, the rent doesn’t abate), its landlord will want to be an “Additional Insured” as to the “rental value” coverage. By the way, that isn’t the same as being a “loss payee.” Get a copy of the endorsement and a copy of the tenant’s policy Declaration page to make sure the endorsement is listed on it. Look for the specific Landlord as Additional Insured (Rental Value) endorsement [form CP 03 15]”

    I was not aware that the “Additional Insured” concept had applications outside the commercial general liability (CGL) insurance policy. Are there other instances in which the “Additional Insured” concept arises in the context of commercial property insurance (as distinguished from CGL)?

  4. I’m replying publicly because your observation is quite astute. It is a rare situation where one would seek Additional Insured status on a property insurance policy, the real important status being that of a loss payee (and there are three kinds of loss payees, so be sure what you are getting – search Ruminations for the words “loss payee” to read about that). As to coverage for “rental value,” ISO has its CP 03 15 endorsement specifically naming the landlord as an additional insured, but only as to the rental value portion of the tenant’s Business Income coverage. That’s pretty narrow. As to the general concept of being an Additional Insured on a property policy, the benefits are pretty confined, although some believe that, as an additional insured, the person or entity holding that status would have a first party claim against an “evil” insurance company for bad faith, and hence might be able to collect punitive damages under the proper set of facts. More likely than alien abduction (with apologies to true believers in that stuff), but not really a good reason, in our mind, to muck around with another party’s insurance coverage. If anyone learns more about this from a true insurance guru, please share. Until then, we’re pretty negative about requiring Additional Insured status on the other party’s property insurance policy (other than for “rental value,” a “special” endorsement).

  5. David Graham says:

    Love that you said:

    “If you don’t understand how “rental value” coverage works, you’ll be wasting your team’s time (and money) and the other team’s time (and money) in negotiations by making up “stories” about how you can’t do this or that and about how the other side shouldn’t worry because “insurance covers that.” You may also damage your own credibility, and that shouldn’t be taken lightly.”

    Everybody, please write the Ruminator’s paragraph on the cover of your form book and say it to yourself and your counsel a million times:

    If you don’t understand how [___FILL IN CRE or RETAIL BUSINESS TOPIC__] works, you’ll be wasting your team’s time (and money) and the other team’s time (and money) in negotiations by making up “stories” about how you can’t do this or that and about how the other side shouldn’t worry because [__FILL IN FAV. HACKNEYED EXCUSE__]. You may [WILL] also damage your own credibility, and that shouldn’t be taken lightly.

    If LL’s counsel tells me with fists-a-poundin’ how wise and experienced he is and how he’s never ever, seen it done that way, and how his client will never, ever agree to that–all in the first phone call–then he is willing to spend all his credibility before the dance has even really begun. Such a man is dangerous to himself and his clients. Steer clear.

    Thank you, Ruminator, for the reminder!

    Cheers,
    David

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