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Fire accidents cause significant damage to property and, in many cases, destroy it completely. Hence, property owners must insure their properties with fire and burglary insurance based on their value.
In many cases, owners may insure the property for a lesser value, leading to underinsurance. In such cases, the average clause comes into play. As per the average clause, when a property is underinsured, the policyholder must bear a part of the loss.
Let us find out more about the average clause and how it is calculated for the purpose of fire insurance.
What is an Average Clause?
The average clause is a provision in a fire policy that comes into play when the insured property is undervalued or underinsured. So if the property is partially damaged due to a fire incident, the average clause will be applied and the insurance company will only pay a partial claim amount to the policyholder.
The following points are critical with respect to the average clause:
- If there is a difference between the insured amount and the value of the property or goods insured, the difference must be paid by the insured.
- The insurance company only pays a portion of the rateable loss.
- The difference between the actual cost and the sum insured under the fire policy must be borne by the policyholder.
- The average clause applies when the actual value of goods or property is less than the sum insured.
Importance of Average Clause in Fire Insurance
The following reasons make the average clause an important one in the fire insurance policy:
- It saves the insurer from paying an additional sum in case of a partial property loss/damage.
- Property owners are encouraged to obtain adequate insurance coverage and avoid underinsurance.
- It prevents the insured from deriving a profit from the insurance claim by aggravating the loss, which is morally incorrect.
- The insured pays a fair premium for the property as the premium is based on the sum insured, which must reflect the property’s actual value.
Average Clause Calculation in Fire Insurance
Let us consider an example to see how the average clause works. To understand the calculation of the average clause, you must first know the formula that is used.
The formula for calculating the average clause is:
(Sum Insured/Actual Value of Property) x Loss Amount
Where:
- The sum insured is the value/amount of the insurance purchased by the property owner.
- The actual value of the property is the market value of the property at the time of the fire incident.
- Loss amount or actual loss incurred to the property due to the fire incident.
Here is an illustration to help you perceive the average clause better. Suppose a property with a value of ₹18,00,000 is insured only for ₹15,00,000 and the fire insurance includes an average clause.
Now, if the policyholder suffers a loss of ₹10,00,000 due to a fire incident, how much claim will the insurer pay and how much of it will be borne by the policyholder?
Claim Amount = (Sum Insured/Property Value) x Loss Amount
= (15,00,000/18,00,000) x 10,00,000
= ₹8,33,333
Thus, the insurer is only liable to pay a sum of ₹8,33,333 and the balance of ₹1,66,667 (10,00,00-8,33,333) will be borne by the insured.
Effects of Average Clause on Insurance Coverage
As we have inferred from the illustration above, the average clause has a significant impact on the insurance claim and coverage amount when the insured property suffers a loss. Whether the underinsurance was done deliberately or unintentionally, there are repercussions for the insured.
- You will not be eligible to receive the complete compensation for your loss.
- Since the insurance company will apply the average clause, the claim amount will be further reduced.
- Your insurance provider may completely cancel the insurance coverage and in that case, you may not get any compensation. Further, it can also create a hindrance to getting insurance for your properties.
Steer Clear from Fire Incident Losses with TATA AIG Fire and Burglary Insurance
Property owners in India must opt for a fire policy to reduce the impact of fire incidents on their finances. However, it is crucial to buy fire insurance from well-known providers like TATA AIG for maximum coverage and benefits.
They offer fire insurance plans for homeowners and business property owners with multiple sums insured based on their requirements. The plans cover losses occurring due to fire, explosion, implosion, lightning and many such instances.
You can also benefit from the built-in covers, which provide comprehensive coverage for your property. Additionally, you can customise the policy by selecting from various additional covers offered in the plans.
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