Getting reinstatement costs right: practical steps to reduce underinsurance

Underinsurance rarely happens overnight. More often, it develops gradually as reinstatement costs fall out of step with the true cost of rebuilding. Richard MacLean, executive director at BCIS, explores what insurance professionals can do to help reduce cases of underinsurance.

From a Consumer Duty perspective, underinsurance creates a clear risk that policyholders may not receive the level of protection they expect at the point of claim. Addressing it therefore requires a more considered approach to how reinstatement costs are established, maintained and communicated over time.

The industry already has access to the tools and data needed to assess rebuilding costs on a robust basis. The challenge lies in using those tools consistently, ensuring the information underpinning them remains up to date, and communicating clearly with policyholders about what the sum insured represents, the risks of it being set too low, and the potential consequences at claim stage.

That communication also needs to be handled carefully so that policyholders understand the risks of underinsurance without feeling they are simply being encouraged to increase cover.

For insurers, brokers and property professionals, a small number of practical steps can make a meaningful difference in reducing the risk of underinsurance developing over time.

Start with a clear reinstatement assessment

Everything depends on the starting point.

Index linking, portfolio modelling and underwriting decisions all rely on the baseline sum insured being broadly correct. Where that initial figure is misaligned, those mechanisms will simply carry the inaccuracy forward rather than correct it.

For that reason, establishing reinstatement cost from first principles is critical. This involves assessing the building based on its size, construction, specification, and the cost of demolition and rebuild in line with current regulations.

Robust reinstatement cost assessments remain the most reliable way to establish that baseline and help ensure the level of cover reflects the true cost of rebuilding. Where the sum insured does not reflect rebuilding costs accurately, the policy may not deliver the level of protection the policyholder expects.

Review properties regularly

A reinstatement cost assessment should not be treated as a fixed point in time.

Construction costs evolve in response to a range of factors, including labour availability, material prices and changes in regulatory requirements. Over time, these shifts can create a growing gap between the sum insured and the actual cost of rebuilding.

For this reason, industry guidance generally recommends that properties are reassessed periodically rather than relying on an assessment that may be several years old. Regular reviews help ensure that sums insured remain aligned with current construction conditions.

This becomes particularly important during periods of cost volatility, when changes in the market can accelerate and any gap can widen more quickly.

Taking a more proactive approach to reviews and reassessments may involve additional cost and resource over time. However, these measures can help reduce the risk of far more significant financial shortfalls emerging at claim stage.

Use index linking appropriately

Index linking plays an important role in maintaining adequate cover between full reassessments, but it is important to be clear about what it is designed to do.

Its purpose is to track changes in rebuilding costs over time, not to correct an inaccurate starting point. Where the baseline is wrong, index linking will simply apply movement to an already misaligned figure.

The choice of index is therefore important. Indices that reflect construction or rebuilding cost movements are generally more appropriate than broad economic measures such as consumer price inflation.

When used correctly, index linking helps maintain adequacy between reviews. When relied on in isolation, it can create a misplaced sense of confidence.

Keep property information up to date

Reinstatement costs are only as reliable as the data on which they are based.

Property records should reflect the building as it exists today rather than as it existed several years ago. Extensions, refurbishments and changes in use can all have a material impact on rebuilding costs, and if these are not captured, the resulting assessment will be incomplete.

Maintaining accurate and up-to-date property information makes it much easier to ensure that the sum insured continues to reflect the asset appropriately over time.

This is particularly relevant for larger portfolios, where inconsistencies in asset data can make it more difficult to maintain a clear and reliable view of reinstatement values across multiple properties.

Communicate what the sum insured represents

Reducing underinsurance is not only a technical exercise; it also depends on how the sum insured is understood.

For many policyholders, it can appear as just another figure on a policy schedule. In practice, it represents the cost of rebuilding the property in full, which is fundamentally different from market value or purchase price.

Explaining that distinction clearly supports better policyholder understanding, which is a key expectation under Consumer Duty. It is important that policyholders understand not only what the figure represents, but also the implications of it being set too low.

Where there is a shared understanding of the purpose of the sum insured and the risks associated with underinsurance, it becomes much easier to avoid problems arising later.

A shared responsibility

Preventing underinsurance does not sit with any single part of the industry.

Surveyors, brokers, insurers and property owners all have a role to play in ensuring that reinstatement costs are established and maintained on a robust and consistent basis over time.

While the individual steps involved are relatively straightforward, reducing underinsurance depends on those steps being applied consistently across the insurance life cycle. This aligns with the direction of Consumer Duty, which places emphasis on delivering good outcomes through appropriate product design, reliable information and clear communication.

When these elements are applied consistently, the gap between sums insured and real rebuilding costs becomes far more manageable.

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