Estimates vs. Bids: Determining Insurer Obligation

by Zelle LLP

Insurance Law360
May 9, 2014

The typical property insurance claim begins with notification of a loss from the insured or its broker. Thereafter, the carrier sends out an adjuster to investigate the loss and determine whether, and to what extent, coverage exists. Often the insured hires a public adjuster to represent its interests with regard to the claim. If the claim is covered, both adjusters generate estimates. These estimates are used to establish initial values, determine reserves and may be used as the basis for any actual cash value payments.

But how reliable are these initial estimates? Are they appropriate for determining recovery for replacement cost?

While estimates may be appropriate to establish initial values and actual cash value payments, the ultimate payment obligation under a replacement cost policy must be based on the amount incurred. To that end, many policies provide for recovery of replacement cost as follows:

3.   Replacement Cost

a.      Replacement Cost (without deduction for depreciation) replaces Actual Cash Value in the Loss Condition, Valuation, of this Coverage Form.


c.      We will not pay on a replacement cost basis for any loss or damage:

(1)  Until the loss or damaged property is actually repaired or replaced; and

(2)  Unless the repairs or replacement are made as soon as reasonably possible after the loss or damage.


d.     We will not pay more for loss or damage on a replacement cost basis than the lesser of (1), (2) or (3), subject to f. below.

(1)  The Limit of Insurance applicable to the lost or damaged property;

(2)  The cost to replace the lost or damaged property with other property;

a)    Of comparable material and quality; and

b)     Used for the same purpose; or

(3)  The amount actually spent that is necessary to repair or replace the lost or damaged property.

If a building is rebuilt at a new premises, the cost described in e.(2) above is limited to the cost which would have been incurred if the building had been rebuilt at the original premises.

e.      The cost of repair or replacement does not include the increased cost attributable to enforcement of any ordinance or law regulating the construction, use or repair of any property.

Clearly, provisions like this limit recovery of replacement cost value to the amount actually incurred.

More generally, property insurance policies are intended solely to indemnify an insured for its actual monetary loss from the occurrence of a covered disaster or loss.[1] For example, in distinguishing liability and property policies, the Texas Court of Appeals for the First District, Houston stated:

A policy of property insurance is a personal contract for indemnity for the insurable interest possessed by the insured at the time of the issuance of the policy, and also at the time of the loss. Property insurance policies are “intended solely to indemnify the insured for his actual monetary loss by the occurrence of the disaster; unless the insured has sustained an actual loss, the insurer has no liability.”[2]

Couch on insurance describes the purpose of property insurance policies as follows:

[Property] insurance is a contract of indemnity against actual loss sustained by the insured, in an amount not exceeding that stipulated in the policy. … The indemnity character limiting recovery to actual loss is generally said to be imposed as a matter of public policy to eliminate any motive of the insured to burn his or her property in order to profit thereby.[3]

These sources confirm that property insurance policies are meant to put the insured back in the position it was in before the loss, and are not meant to provide the insured with a windfall. Often a claim is presented based on estimates prepared by public adjusters and/or contractors. The problems with these estimates can be abundant. They are typically created with software estimating programs. Although there is nothing inherently wrong with estimating programs, they are just that, estimating programs.

These estimating programs can be subject to manipulation to achieve a desired measure, sometimes resulting in the submission of inflated estimates bearing no resemblance to the actual reasonable cost to perform the necessary repair work. For example, computer-generated estimates often include line items for general contractor overhead and profit — even if such costs are unlikely to be incurred as no general contractor is involved in the project.[4] When included despite not being incurred, where does this additional 20 percent overhead and profit go? To the insured to cover his deductible?[5] To the subcontractor as increased profits? To the public adjuster?

These kinds of line items are inappropriate when the amount is not actually incurred by the insured to repair or replace the physical loss or damage at issue. Of course, including these additional line items can inflate the amount of a claim and potentially increase the recovery to the insured or others involved with the claim process. But, as noted, property insurance policies are intended solely to put the insured back in the position it was in before the loss — the insured and/or those involved in the claims process are not intended to profit or obtain a windfall from property insurance coverage.

Given issues with these estimates, and the fact that the estimates are not based on costs actually incurred, why would a carrier base its replacement cost payment on an estimate? Why not get bids from actual contractors ready and willing to complete the work?

Many of the problems with estimates can be avoided simply by obtaining actual competitive bids submitted by reputable contractors, rather than computer-generated estimates, to determine the appropriate replacement cost claim measure.

Therefore, when determining ultimate replacement cost value payments, the best practice is to look at amounts that will actually be spent or incurred. Actual prices from real contractors willing and able to complete the job are the best indicator of the actual cost to repair or replace the physical loss or damage. These bids would obviously already include all of the contractors’ costs, overhead, and profit. Use of such bids would avoid an improper recovery, while also ensuring the policyholder is properly protected consistent with its policy coverage and applicable law.

The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.

[1] See, e.g., Tellepsen Builders, LP v. Kendall/Heaton Associates, Inc., 325 S.W.3d 692, 697 (Tex. App.—Houston [1st Dist.] 2010, review denied).

[2] Id. (citations omitted)

[3] Couch on Insurance §1:37 (citations omitted).

[4] Xactware – Overhead and Profit, Xactware Solutions (2009) (the “10 + 10” line items listed at the end of an estimate are intended to be general contractor overhead and profit and not subcontractor overhead and profit).

[5] Increasing a claim measure solely for purposes of covering/rebating an insured’s deductible is frowned upon by the Better Business Bureau and has been characterized as insurance fraud under Texas law. Tex. Ins. Code § 27.02.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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