Whether you’re a landlord or a tenant, insurance options for commercial real estate can be daunting. Knowing what to ask your insurance broker can save the day. This sampler of issues will help you and your broker manage risk in ways that complement the obligations in your lease.
1. Fire & Casualty Policies
Most of us enjoy Maine’s architectural and historically interesting buildings. Marble foyers, slate roofs and inlaid ceilings add pleasure to our daily routine. Despite the beauty and visual impact of these buildings, landlords and tenants often face obstacles to replacing the most interesting features after a fire or other casualty because of new building codes and insurance policy limitations.
Landlords should consider using leases that require tenants to obtain casualty insurance to replace unusual architectural details. Additionally, landlords should obtain similar coverage for the common areas they control and add the premium to the tenants’ common area maintenance charge. In each case, the landlord or tenant should ask for Building Code Upgrade and/or True Replacement Coverage and list specific architectural features in a separate rider.
As enjoyable as these aesthetically pleasing real estate gems are, cash flow may be even more important if the building that generates cash flow is destroyed by fire, obtaining a new loan for reconstruction may prove difficult in the present lending environment. Many lenders require enough collateral to meet the estimated value of reconstruction, meaning that the percentage equity required for the reconstruction loan will be much higher than the percentage require for the original purchase of the building.
With fire insurance proceeds available, why would this more stringent requirement matter? Many fire policies allow the proceeds to be paid to the mortgage holder, resulting in the first mortgage being paid down or paid off. Nevertheless, the lender may apply its higher construction loan equity requirements to the reconstruction, effectively preventing the owner from rebuilding.
Building owners can avoid this result with a casualty policy, and coordinated mortgage and lease provisions, that allow the building owner, not the insurance company or lender, to decide whether to apply the insurance proceeds to reconstruction or to paying down the mortgage.
2. Additional Insured
One side often wants to be covered by an insurance policy paid for by the other side. They may request that they be made an Additional Named Insured. That request creates a problem. “Additional Named Insured” is a misnomer, so if the term appears in a Certificate of Insurance, it is necessary to read the endorsement itself very carefully to see what the insurance company is providing. The correct request is to ask to be listed as a “Named Insured” or “Additional Insured.” Ask for the right, but not the obligation, to pay premiums if the primary insured neglects to do so. Insurance agents and lawyers have an important role to play reviewing endorsements with the “Additional Insured” to confirm that the expected coverage is actually in place.
Insurance is affected by indemnity obligations and the scope of the insurer’s right of subrogation. Does the landlord expect to be indemnified by the tenant “against all claims” for damage? In Maine, such an indemnity may only be enforceable if the nature of the claim and the claim type are specified clearly. In Massachusetts, assume such an indemnity will not be enforceable at all unless the negligence of the indemnified party is an exception to that indemnity. In such a case the landlord must have coverage for items that are not part of the indemnity and both tenant and landlord must confirm that the tenant has insurance coverage to fund the indemnity obligation when needed.
4. Waiver and Subrogation
Typical commercial leases not only require indemnities of certain types, they also deal with waiver and subrogation. For example, if a tenant waives claims against a landlord for water damage to personal property in a leased space but not in a common area, the tenant needs insurance for in-space casualty loss. The landlord needs similar coverage for losses in the common area.
By waiving subrogation, the recovery for any loss stops at the insurance company level to reduce the risk of litigation. The landlord’s insurance company cannot sue the tenant and vice versa. Both parties can limit their subrogation waiver by the amount or type of risk, but limited waivers mean an increased risk of litigation.
As with Additional Insured and Named Insured Endorsements, the insurance agent and lease counsel have important roles to play in confirming that each side’s insurance coverage matches their special coverage requirements.