Expert: James R. Berliner, CPCU - 12/7/2006

Question
I have an employee who took the AR state insurance exam and she missed the questions about "coinsurance" they would give and example of a loss and state the coinsurance amount and she would have to figure what the payment would be on that given policy.  She has had several people explain it to her through ISTA (the training schooling) but they have not been able to break it down simple enough for her to understand.  Quite frankly I have been an agent for twenty years and I was a teacher for 14 prior to that and I don't know enough about coinsurance to explain it to her.  State farm does not have coinsurance (well it is at 100%) so we as agents don't have to deal with it.  Do you have any information that you can share with us that would explain the principal of coinsurance and give us an examples of how a specific settlement would work.  I understand the general idea but I really get lost on the "partial" losses.  If I could just get her to understand it enough to get past the test that would be great.  

Answer
Casey -

I'll skip the philosophy of coinsurance and why it exists and get right to the mechanics of how it works.  If you do need to know that stuff, let me know.

Let's work with a policy that carries an 80% coinsurance clause.  Here are some givens:

Total replacement cost of Building - 100,000
Applicable Coinsurance Percentage  -  80%
Amount insurance carried  -  $60,000
Amount of Loss  -  $30,000

As a quick reminder, '80% coinsurance' means the insured is required to carry an amount of insurance equal to 80% of the replacement cost of the building.

In computing the loss settlement for the above example, first you set up the 'coinsurance equation' ->

(Amount of insurance Carried / Amount of insurance required) multiplied by the loss equals the settlement.

Filling in the numbers, you get ($60,000 / $80,000) multiplied by $30,000 equals $22,500.

So the insured lost out on $7,500 by not insuring their building to 80% of the replacement cost ($80,000)

Hope this helps, let me know if you still have any questions.

James Berliner