Complete Guide to Commercial Property Insurance
Starting, growing, and operating a business typically requires quite a bit of cash that’s used to buy or rent buildings, buy office supplies or equipment, and buy more inventory. The type of insurance that protects your building and your business’s contents is called commercial property insurance.
Commercial property insurance is very important to being able to run a successful business, but it can also be complex and confusing.
What Is Commercial Property Insurance?
Commercial property insurance is the type of business insurance that covers your business’s physical property, equipment, and possibly stock and inventory. Basically, it can cover your office building and nearly anything that’s inside it.
Commercial property insurance typically is part of something called a commercial package policy. A commercial package is made up of various types of commercial insurance, including commercial property, general liability, and could include other types of insurance as well.
It’s common to have both your commercial property insurance and your general liability insurance with the same company, which creates a package policy. However, this isn’t usually required and there are many insurance companies that will just insure your commercial property, while another company will insure your general liability.
What Does Commercial Property Insurance Cover?
Commercial property insurance covers your business’s physical property, which could include a building and your business’s contents, equipment, and/or stock. Unlike homeowners insurance, no coverage is automatically included in a commercial property policy. If you want to insure something, you’ll have to specify it and pay the premiums for it.
The most common items that are covered under commercial property insurance include:
- Building: If you or your business owns the physical building or office space that you work in, you can insure the building itself. You’ll need to decide which type of building valuation you want, which is covered in the next section. If you have multiple buildings, you’ll need to insure each one separately.
- Business personal property: Business contents or personal property is essentially anything that you brought into your office building that’s not permanently attached to the building. This could include things such as desks, chairs, computers, phones, office supplies, manufacturing equipment, tools, etc. For some businesses, it could also include things that are sold to the public.
- Documents: Important documents and accounting records can be insured, though the base coverage you’ll receive could be around $10,000. Since paper is relatively cheap and it’s the paper’s content that is valuable and hard to replace, you might want to increase this amount to cover the cost of replacing the lost information.
- Inventory: Depending on the nature of your business and the insurance company you’re with, you might need to insure your stock or inventory separately from your business personal contents. Insurance on your inventory will normally be paid out at your buying cost, and can also account for seasonal fluctuations.
- Fences, signs, and landscaping: Sometimes you’ll receive automatic coverage for outdoor signs, fences, and landscaping, but you can increase these limits if you want to.
- Customers personal property: You may receive a low automatic coverage limit for customers’ personal items, but you might also need to add this coverage if your business needs it. This coverage is not intended for businesses who routinely have customers’ personal property in their care, such as auto repair shops. These businesses will need a separate type of coverage called Customers’ Care, Custody, and Control.
How Will My Building Be Valued by Commercial Property Insurance?
Insuring your building isn’t as simple as just picking a number and getting the full coverage amount. There are three types of property valuations that are used in commercial property insurance.
Replacement cost: This is the type of coverage most people expect when they buy property insurance. Replacement cost will pay to fully replace and repair your building with materials of similar type and quality. However, many people and businesses underestimate the actual cost that this would be to replace their building.
In order to prevent confusion — and lawsuits — insurance companies have set certain requirements to purchase replacement cost. The first consideration is what the replacement cost actually is. Insurance companies mainly use software programs to come up with a number, based on the age, square footage, building type, and condition of the building.
A key factor with replacement cost is that you might not receive it even if you buy it. This is because insurance companies will typically require you to insure your building for a minimum of 80% of its replacement cost number. Your building’s replacement cost number might increase every few years due to rising construction costs and inflation, so you might be hit with a coinsurance penalty if you have a claim. Coinsurance is the name for this insure-to-value idea, and not having enough coinsurance can result in a claim settlement that’s not even close to what you expected.
So, while replacement cost coverage will pay out the most claims money and can give you the best option to repair and replace your building, it’s also the most expensive and you’ll have to keep in mind the coinsurance threshold in determining your coverage amount.
Actual cash value: This type of loss settlement factors in the age, condition, and depreciation of your building when paying out a claim. It’s often used for older buildings that might not be replaced the way it was originally built. ACV isn’t so bad with a total loss, as you’ll likely receive a check for whatever coverage amount you have.
The main problem with ACV is during partial losses. If you have a partial loss, you won’t receive the full amount to replace the damaged item. For example, let’s say you have damage to your roof and you’ll need to replace the entire roof. It’s going to cost you $20,000 to get a new roof on your building. Since it’s a 20 year old roof and you have ACV, you may only get about $4,000 from the insurance company, meaning you’ll still have to pay $16,000 out of pocket.
Functional replacement cost: Functional replacement cost is not as common as the other two options, but it can serve as a nice alternative to actual cash value, particularly for older buildings. Instead of replacing with a similar kind and quality (replacement cost) or factoring in depreciation (actual cash value), functional replacement cost with replace the property with materials that serve the same purpose.
For example, if you have a brick building with an office in it and have functional replacement cost during a total loss, the insurance company might say that you don’t need a brick building to function as an office, you simply need a frame building. Functional replacement cost allows you to carry lower insurance amounts but still receive something comparable to replacement cost, making it a solid alternative to the other two options.
Why Do I Need Commercial Property Insurance?
Commercial property insurance is one aspect of a business’s insurance program and can help get a business back up and running if it suffers a loss, such as a fire, tornado, or even a power outage.
While you may not enjoy paying the bills for it, it’s much better to pay those bills now and know that your business can survive a major loss. Without insurance, your building and all of your business’s contents and equipment would be completely lost with no source of money to rebuy them.
Some of the most common consequences of not carrying commercial property insurance include:
- Bankruptcy and closure: If you have a fire loss or other type of claim, it could cost your business millions of dollars to rebuild and rebuy without insurance. If you don’t have that cash stashed aside — and let’s face it, who does? — then your business will be forced to close and declare bankruptcy after a total loss.
- A ruined reputation: If any customer were to get hurt and/or lose some of their personal belongings in your claim, the negative publicity could further hurt your business’s chances of survival. Carrying the proper type of insurance can help your customers know that you operate a legitimate business and care about their well-being.
- Legal trouble: While general liability insurance does give you good legal protection from lawsuits, failing to carry adequate commercial property insurance could result in legal issues for your business. If you default on loans or can’t pay vendors or employees, you could face further lawsuits that could have been avoided with adequate commercial property insurance.
- Spoiled inventory: If you have perishable inventory like food or flowers, all that’s needed to wipe it out is a power outage that lasts a couple of hours. You can insure this loss with commercial property insurance.
Is Commercial Property Insurance Mandatory?
If you’re taking out a commercial loan to purchase your property, your bank or finance company will likely require you to have commercial property insurance. Similar to banks requiring homeowners insurance if you’re taking out a mortgage, banks simply want to know that their money won’t be totally lost if something does happen to your building.
Even if it’s not required by a bank, commercial property insurance can be a valuable form of protection for your business. Starting and operating a business requires a lot of money and capital, which oftentimes isn’t there for a second go around. Operating a business without commercial property insurance means that if you do have a loss, you’ll have to start from scratch.
How Much Does Commercial Property Insurance Cost?
The cost of commercial property insurance varies and largely depends on the following factors:
- Size, age, and condition of the building
- Loss settlement option (replacement cost, actual cash value, functional replacement cost)
- Value of the building
- Value of your business’s personal property
- Location and cost of building supplies in your area
- Nature of the business and building
You’ll also select a deductible for each property coverage, which includes your building coverage and your business’s personal property coverage. The higher your deductible is, the lower your premiums will be.