Property Insurance and Replacement Reserves

We are still using the insurance broker that the developer selected. We are starting the process to obtain bids from other agents for next year. Our current property coverages include $400,000 for the furnishings of our clubhouse. However, those same furnishings are specifically listed in our reserve study inventory and we fully fund the reserves in accordance with the study. So my question is - do we really need to carry property insurance on property that we are "self insuring" by setting aside funds for that property's replacement in our replacement reserve fund? Our insurance agent insists that dropping such coverage is a very bad idea but cannot give me a convincing reason why. Do you carry property insurance on common property that is also covered by your replacement reserve fund?

Carol,

I do not see much of a distinction between use of replacement reserve funds to replace an old, worn-out piece of clubhouse furnishings or using reserve funds to replace that same item after it is damaged by fire/flood/theft/etc./etc. The decision of when to replace an item in the reserve inventory is up to the board. We can decide to replace it sooner than the reserve study shows or later than the study shows. If an otherwise insurable cause leads to us replacing an item earlier than the study shows, who - outside of the association - would know or care?

My take is that insurance is intended to protect against a catastrophic loss that would otherwise severely impact the financial health of the association. Why should we pay insurance premiums to cover an item that we already have set aside money to replace, if and when necessary? I am self-insuring for that potential loss.

This is not to say that, in the event we do have to replace an item with funds from the reserve, we would not then add the new item to our insurance coverage until such time as we have again accumulated the funds to cover its replacement costs.

So, David, you're mainly concerned with eliminating insurance on the furnishings & fixtures in your recreational common areas? Is that right? And you're not considering eliminating insurance on your buildings (including the clubhouse), roofs (if HOA responsibility), etc?

Related, how much a year does it cost to insure your clubhouse furnishings? Are they still worth $400,000? Can you get by with a larger deductible on them?

In our case, if all of our furnishings, fixtures, wall art, etc. in our two large lounges were simultaneously destroyed, we'd put a huge hole in our reserves to replace those components and we have many other reserves components that are far more important (in our high rises).

But unlike your enviable position, our reserves aren't 100% funded, which is very rare in these parts!

Still, I think you need to think your about this from a reserves standpoint vs. an insurance standpoint.

David - Check the type policy you have. Normally Agents write a package policy that includes property/furnishings and liability. If you will check with your Agent, you will probably find that a fire policy for the building and then liability coverage will cost more. Compare prices through your insurance agency before making decision. Hope this helps.

David,

You really need to do a lot of homework before you seriously consider giving up hazard insurance on any association property, whether you believe you have the reserves to replace it or not. If you give up your hazard insurance you may make it more difficult for your homeowners to sell their homes. The reason is that lenders may not be willing to write mortgages for homes in associations that lenders do not believe are properly or fully insured - by their standards, not by yours. Lenders are unwilling to take the risk that borrowers might be faced with sudden special assessments to replace or repair association property which could interfere with the borrower's ability to pay back the loan. I know when I re-financed my home recently I had to tell the lender where they could obtain information regarding the association's master policy, and I live in a single-family home. So, it doesn't matter whether you believe you have enough in reserve funds or not. What you believe or think doesn't count as far as the lenders are concerned.

I also know that FHA insured loans (as well as Fannie May and Freddie Mac) not only require require that associations have adequate reserves, but that they also are fully and properly insured.

You might also need to check your state laws and your own documents. Many have clauses that require the association to notify all mortgagees (lenders) of homes in the community if there is any change in insurance coverage, among other things. Our Declaration (CCRs) has an article titled, "Mortgagee Protection" that includes the requirement that our association notify all lenders of "Any lapse, cancellation, or material modification of any insurance policy or fidelity bond maintained by the Association." The amount and kind of insurance is also specified in our documents and cannot be changed without the vote of 67% of the homeowners and the consent of 51% of the mortgagees (lenders).

Do not be hasty. Things may not be as simple as you would like.