Natural disasters are events that create fear. When you add the flavor of how these events are reported, the fear is ratcheted up significantly, especially when you’re not accustomed to a particular event. For someone who grew up in an area where snowstorms were common, in an era before the Weather Channel decided to name winter storms (a choice that I see as dubious at best), blizzards don’t scare me. And since I’ve lived in Florida for 17 of the last 22 years, and dealt with hurricanes in different ways, they don’t really scare me, either.
Earthquakes are another story. I was watching the World Series in 1989 when the Loma Prieta earthquake (yes, I had to look up that name) happened and that was one of the most frightening things I had ever seen on television. For me, the thought of being in an earthquake is actually terrifying. If you’ve been through an earthquake and you’re not terrified like I am, that’s good and I’m glad. Just let me have my irrational fear.
That behind us, we intend to answer three questions: What’s the risk? What does a property policy cover? Who really needs earthquake cover?
What’s the Risk?
While that sounds like a simple question, like most insurance questions, it’s more complicated than it first looks. While we’re looking at the risk, we are not talking about the risk to life or any liability that might be associated with an earthquake event. We are only talking about the risk to property associated with an earthquake event.
Part of the risk of earthquake is what may happen to the building and associated personal property. When an earthquake happens, the earth moves. This isn’t exactly a shock to anyone (it’s not even an aftershock). An earthquake occurs when the ground begins to move in unexpected ways; this causes everything on the ground to shake. When this happens, property can be damaged.
Damage to buildings could be a few windows knocked out, cracked or broken, and some items falling from walls and shelves. At worst, an entire building could be destroyed if it is not able to handle the stresses that are placed on it from the shaking. Whether the damage is minor or major, there are events following the initial quake that can cause more damage. This ranges from fire or explosion caused by damaged gas or electrical service to water damage caused by pipes broken by the quake to the aftershocks that continue to come after the initial quake. Those aftershocks can be strong enough to finish the job that the initial quake started.
Another part of answering the question of what the risk is, is to answer the question — what is the actual risk of an earthquake happening in a particular location? According to the FEMA website there are no locations in the contiguous United States where there is no possibility of feeling the effects of an earthquake. This doesn’t mean that every location has the same risk of having earthquakes or having a strong earthquake. But there is no zero-risk area. Sorry.
So, depending on where the building is, there are certain areas that have a higher risk for more and stronger earthquake activity and there are many areas where the risk is lower.
What Does the Policy Cover?
This is also a bit complicated and depends on whether you’re talking about a homeowners’ policy or commercial property policy, an admitted policy or an excess policy, a California policy or a Florida policy. But here are some general thoughts from the ISO Special Causes of Loss form (CP 10 30 09 17).
Covered Causes of Loss When Special is shown in the Declarations, Covered Causes of Loss means direct physical loss unless the loss is excluded or limited in this policy.
That’s a good start, but you know there’s more to the story, don’t you?
Earth Movement (in part)
(1) Earthquake, including tremors and aftershocks and any earth sinking, rising or shifting related to such event;
(2) Landslide, including any earth sinking, rising or shifting related to such event;
If you’re keeping score, we have now excluded coverage because this is a specific exclusion. In fact, it’s exclusion B (when you start counting at A). Very early in the form, we have excluded coverage for damage related to earthquakes. You have likely noted already that we didn’t add the entire exclusion. That’s because we’re not talking about mine subsidence (that’s another article for another day) nor are we talking about sinkhole (which is covered) or the natural settling that occurs over time under a building (that’s not covered).
However, there is an exception that we might need to look at because you’re already thinking that you thought that fire following an earthquake should be covered. Let’s see how that happens.
But if Earth Movement, as described in b.(1) through (4) above, results in fire or explosion, we will pay for the loss or damage caused by that fire or explosion.
So, the earth shakes and causes damage to a building, but in the course of that damage occurring, a gas line breaks and two pieces of metal scrape together causing a spark large enough and in the right place to ignite that gas, causing an earth shattering kaboom. The damage from the earth shattering kaboom is covered. Good luck to the claims adjuster who tries to discern which damage was from the earthquake and which wasn’t.
So, when there is an exclusion, you have to wonder if there is a way to provide coverage to close that gap. The answer is that there are solutions. ISO has several endorsements that can provide earthquake coverage. If you’re considering an ISO solution, consider whether the insured is best served by a flat deductible or percentage deductible. You don’t need a primer on the differences between the two. You already understand that, but if I were the underwriter and your client’s building was a $3 million building in an area at higher risk for earthquake, I’m looking to give a percentage deductible, but that’s just me.
Another solution exists. You can go looking for a difference-in-conditions policy to provide earthquake coverage and any other coverage that you think might be lacking on the current policy that the insured has. The same caveat applies. Look for the deductible provision to make sure that the insured is aware of it and how it applies. Those percentage deductibles can turn into large dollar amounts.
Who Needs Earthquake Coverage?
So, the insurance practitioner in me responds first — that everyone needs earthquake coverage. I mean, if everyone buys it then it can cost less for those people who really need it, right? Not exactly. In this case, when it comes to earthquake coverage, those who should buy it because they are in an area where earthquakes are more likely will pay more for their earthquake coverage.
To be clear, not everyone needs to buy earthquake coverage.
This is no doubt going to irritate that company out there trying to build their earthquake book by adding inexpensive coverage to all policies that are in a relatively less risky area. It may help that I have no intention of listing out the risks that I think don’t need earthquake coverage. I can’t do that, and not because I have someone from our risk management team looking over my shoulder making faces at me whenever I think about offering blanket insurance opinions without considering the details of the individual risk.
One client who needs earthquake coverage is the one who thinks that they do. If they want coverage, whether they are located somewhere along the New Madrid fault or if they are located somewhere in Nebraska, find them coverage. It’ll likely cost them next to nothing and they’ll feel better about it. I for one would not generally dissuade someone from buying more coverage, even if I am not sure that they have enough of a risk to make the purchase.
I bought earthquake coverage on my HO-4 in Florida. OK, it was included, but still I didn’t ask for it to be excluded when I discovered it.
It may seem clear to most of us, but I’ll put it here anyway. Any client who has property in an area where an earthquake is more likely to happen and more likely to be stronger, should consider the purchase of earthquake coverage.
This is going to become a conversation about the costs and potential benefits of making this purchase because the higher the risk, the higher the replacement cost, the lower the deductible, and at least 17 other factors will go into the decision-making process. In short, unless the client is one of those already convinced about earthquake coverage, you may have to help them with making this decision.
Some clients will think that the cost is too high compared to the likely benefit of getting the coverage. Others will think that they need the coverage, but they might need a considerable deductible to make the cost make sense to them. Then you might need to have a conversation about where they’ll get that money for the deductible that they chose because not everyone just has 10% of $5 million lying around in petty cash.
There are some clients who may not be in a high-risk area and they’re also not in a low-risk area, but to add to the complexity, they are located in a highly developed area, or city. Not a city like Jacksonville, but more a city like Boston. Risks in those areas might consider earthquake coverage not because they are at high risk of loss due to earthquake, but because they are in a relatively lower risk of loss, but higher risk of catastrophic loss.
The benefit of purchasing insurance for a lower risk event in an area where there are more buildings at risk is two-fold. First the insurance is less expensive. Yes, the risk of a catastrophic event is higher because of the sheer numbers and values of the property, but most companies that are writing earthquake coverage may have a lower concentration of buildings on their book in that region so with a lower exposure and lower risk, there is the potential for a lower premium.
Here’s another thing to think about. If there is an earthquake in a larger metropolitan area, and there are relatively few buildings insured against earthquake, where is the money coming from to rebuild?
Right. Some will come from the pockets of the building owners and way too much is going to come from the local, state and federal governments in the form of emergency funding from FEMA or another similar organization.
When there are thousands of people looking for money from those sources, it takes longer to get the money. When it takes longer to get money, it takes longer to get buildings rebuilt and rubble removed. If the building was insured, the possibility of getting a check quicker is higher.
What have we learned? Earthquakes are terrifying and expensive. More clients need earthquake insurance than don’t need it. And I don’t have someone from our risk management team standing over my shoulder making sure that I don’t write anything that’ll get me (us) into trouble with anyone, anywhere.
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