To get right to the point, there is no one-size-fits-all policy and properties which are either vacant or held for sale at the time an insurance policy is applied for cannot be written with a standard-market insurance carrier and they require different types of coverages. The following information may seem overwhelming if you are not familiar with the insurance industry, but it is intended to give you a basic understanding of why coverage for vacant property is more expensive and how it differs from the other property policies you may be more familiar with.
A Note About Vacant Property Coverage
First of all, no standard ‘big name’ insurance carriers such as Farmers, Allstate, Safeco, Travelers, State Farm, etc. will issue new policies of any type on properties that are either vacant or actively held for sale at the time of issue unless they are rental properties scheduled to be occupied within the next thirty days. Their underwriting guidelines and ‘appetite’ (an insurance term indicating the risks a company is currently interested in writing business for) specifically prohibit, in very clear and precise language, these types of properties. The reason for this is that vacant properties and those actively held for sale represent a much greater likelihood of loss due to vandalism, theft, arson, unrepaired water leaks, and similar circumstances. From the insurance company’s standpoint, the best way to avoid paying for these losses is to simply not accept the business.
If an agent were to issue a new policy on a property that the carrier prohibits and the carrier learned of it through a property inspection or because of a claim, the agent could lose his appointment and contract with that carrier. In addition, if there was a loss, the carrier would legally deny the claim altogether and cancel the policy ‘flat’ since it should have never been written in the first place per their existing underwriting guidelines and the fact that the property was vacant or for sale was not revealed would be considered ‘material misrepresentation.’ The agent could then face fines and administrative action from the state’s Department of Insurance as well as errors and omissions issues from the customer. In addition, the customer would be left without any coverage for the loss and he or she would have to pay for all all repairs or property replacements out of his or her own pocket.
The Dreaded (and Often Ignored) Vacancy Clause
One caveat to vacant property coverage occures when a previously-occupied and currently insured property becomes vacant, such as when a tenant moves out. All standard-market carriers have a very specific clause, known as the ‘vacancy clause’ written into their dwelling policies which deal with this situation. Each carrier’s clause is a bit different, but they are similar in their intent to reduce the carrier’s exposure to a loss.
In short, if a previously-occupied property becomes vacant for a period of more than 30 days (60 days with some select carriers), the policy either (1) automatically cancels altogether so that there is now no insurance in place or, if the clause is written in such a way as to keep the policy in force, (2) all coverages <water damage, loss of rents, vandalism, etc> are terminated with the exception of coverage for fire and lightening only. Once the property is reoccupied the original coverages are returned.
Where to Get Coverage For Vacant Homes and Property Held For Sale
While standard-market insurance carriers will not issue new business on vacant or for-sale properties, coverage is still readily available – but you will have to pay much more for it and the coverages are greatly reduced.
Policies for these types of properties are written through the ‘Excess and Surplus Lines’ market (referred to as E&S), which many agents know little or nothing about. In addition, agents are required by law to obtain special licensing and education in order to use this market (which fewer than 3% do). Simply stated, this is huge multi-billion dollar insurance market specializing in high-risk, unusual, or hard-to-place risks such as vacant property, commercial property, general liability, and numerous other coverages that the ‘standard’ market does not have an appetite for. This E&S market is comprised of specialty domestic insurers as well as ‘syndicates’ made up of overseas companies, most notably Lloyds of London. How these carriers and syndicates work is another topic for another article, but suffice to say that it’s complicated. Also, because of the nature of their high-risk business, these companies do not advertise directly to consumers and you have probably never heard of any of them, although they are usually extremely financially-stable with hundreds of millions of dollars held in financial reserve.
In order to obtain coverage for a property that is vacant or for sale, you must find an agent that is very knowledgeable with regards to the E&S market and that already has established relationships which enable him or her to write this type business (InsuranceForInvestors has numerous E&S markets available). This is fairly uncommon as the majority of agents have limited industry knowledge and they often focus only on simple home, auto, life, and health insurance.
Also, once you have found someone who understands what it is that you need, you will probably be required to fill out paper applications and the agent will then submit them to the carriers for review.
Most of the policies cannot be quoted online by an agent and, once submitted, it may take anywhere from the same day to several days to get a quote back because the E&S market almost always requires a manual underwriting process because of the unusual and varying nature of the risks that they write – the agent has little or no control over this process. This means that there is very seldom any sort of online rating program or automation which can immediately produce a bindable quote for you.
Unique Characteristics of E&S Policies
As you may have already guessed, there is a very big difference in the actual policies for vacant and for-sale properties than for standard dwelling policies, one of the most notable being the premium. The following list represents some of the major differences that you will need to be aware of.
The premium for vacant and for-sale properties is always much more expensive than a standard policy because the premium charged reflects the type of risk insured. This premium can be anywhere from 30% to 200% higher depending upon the property, prior loss history, and coverages desired. Also, because of the manner in which E&S carriers are structured, they are usually ‘non-admitted’ to the state in which the property is located, which means that they are required by law to charge state tax and filing/stamping fees. In addition, they may charge policy fees ranging anywhere from $75 to $250 or more (again, depending on the carrier, the risk, and the premium amount).
Minimum Earned Premium (MEP)
All E&S carriers also have a ‘Minimum Earned Premium’, which is normally 25% of the base premium amount not including the taxes and fees. What this means is that at least 25% of the pure base premium is considered to be ‘earned’ by the carrier at the very moment the policy is issued, even if it is only in force for one day. For this reason, all of these policies require at least a 25% non-negotiable down payment at the time of issue. For example, if a policy were issued with a total premium of $ 1,176.50 ($ 1,000 base premium + $ 100 policy fee + $ 76.50 tax), then 25% of the base premium ($ 250) would be considered immediately ‘earned’ and it, along with the fees and tax of $ 176.50 would be due as a down payment in order to start the coverage.
The earned premium, taxes, and all fees are always considered non-refundable.
E&S carriers are not set up to manage regular monthly billing cycles and they require that the policy premium be paid in full, usually within 15 days of the policy issue.
To prevent having to pay the premium balance in full and to establish a more manageable monthly billing for customers, third-party companies which specialize in the financing of insurance premiums are utilized. Although they work together closely to avoid coverage lapses and billing issues, these specialty finance companies are often unrelated to the carriers themselves and they serve as a third-party intermediary managing premium payments.
Just like when purchasing a care, when the policy is issued, a financing agreement is signed and the down payment (which is paid by the customer and includes taxes and fees) is sent to the carrier issuing the insurance. The remaining balance is then provided by the finance company to the carrier (on behalf of the customer) and the customer then repays the finance company in regular installments. If the customer is late on payment or fails to pay, the finance company notifies the carrier which, in turn, sends a cancellation notice to the customer.
Many policies for vacant or for-sale properties can be written in either in 6-month or 12-month policy terms, depending upon the carrier. The reason for this is simple; if a property is being sold or is currently vacant, the assumption is that it will either be occupied or sold in the near future so why should a customer have to pay for a 12-month policy if the property might reasonably be occupied or sold within the next 90 days? If you need to extend the term of a policy for any reason, this is easily done.
Differences in the Coverage Provided
There is a tremendous difference in coverages provided between standard dwelling policies and those issued for vacant properties. While the common loss of rents and loss of use coverages are not provided (because the property is not occupied and they are therefore, irrelevant), there are many other differences of which you should be aware.
Vandalism and Malicious Mischief (VM&M) – Because it is the most likely cause of loss, most E&S policies do not include coverage for vandalism and malicious mischief for any reason, though there are some carriers which will offer to include it – for additional premium. If you do have a carrier offering to provide this coverage, you can expect to spend several hundred dollars for it.
Accidental Water Damage – Very few vacant property policies include any coverage whatsoever for damage caused by the accidental discharge of water. While coverage for water damage is often included in dwelling policies for tenant-occupied properties, this coverage is specifically excluded and cannot be endorsed (added) back to pollicies used to insure vacant dwellings. Having said that, there are a few rare cases where some companies may allow you to purchase this coverage for an additional premium, but those additional premiums are often two or three times more than the basic policy premium itself and the coverage becomes cost-prohibitive for most investors.
Theft – Theft coverage is often provided in policies for vacant properties, but you will definitely want to ask the agent to be certain as it is not an absolute guarantee that it is included.
No liability – policies for vacant and for-sale properties often do not include liability coverage to protect you against legal issues and lawsuits arising from injury or other issues arising on or from the property. If you desire liability coverage, you will be required to purchase a separate liability policy or pay much more for a policy which does include liability coverage.
In summary, properly insuring vacant and for-sale properties is a very specialized and unique niche which requires a great deal of knowledge on the part of the agent issuing the policy. The coverages are greatly reduced over those afforded to normal occupied property and it requires that you, the investor, have a good understanding of the risk as well as what coverages you are, and are not, receiving with the policy that you are purchasing.