Underinsurance is a common issue among Australian property investors, often due to rapidly changing construction costs and inadequate policy reviews. Being underinsured means your insurance cover is less than the actual cost to rebuild or repair your property in the event of damage. This can lead to significant financial strain if disaster strikes.
How to Determine if Your Investment Property is Underinsured
Underinsurance occurs when your property's insurance coverage is insufficient to cover the full cost of rebuilding or repairing it after damage. This can happen due to rising construction costs, changes in building codes, or simply not updating your policy regularly. According to the Insurance Council of Australia, many properties are underinsured by 20% or more. To avoid this, it's crucial to assess your property's current replacement cost, which includes the cost of materials, labor, and any unique features or improvements.
How This Works in Practice
Consider a 2015-built 3-bedroom house in Melbourne, purchased for $900,000. Over recent years, construction costs have risen significantly. If the current replacement cost is assessed at $1.1 million due to market changes and improvements, but your insurance cover remains at the original purchase price, you're underinsured by $200,000. In the event of a total loss, and assuming a 37% marginal tax rate, you could face a $200,000 shortfall, which equates to a $74,000 tax-effective personal cost.
Professional Insight
In our experience, many investors underestimate the impact of rising construction costs on their insurance needs. One thing we frequently see is investors forgetting to update their insurance after renovations or extensions. Another common oversight is not accounting for increased costs due to stricter building codes or environmental regulations. What most investors don't realise is that underinsurance can also affect claims payouts, as insurers may apply an average clause, reducing payouts proportionately to the underinsurance.
When Does the Answer Change?
When Should You Seek Professional Advice?
If you're unsure about the adequacy of your insurance coverage, it's wise to consult both a Chartered Quantity Surveyor and your insurance broker. A QS can provide an accurate replacement cost assessment, while your broker can ensure your policy reflects this value. This collaboration ensures comprehensive coverage, tailored to your specific property and risk profile.