Energy prices and the need to reduce greenhouse gases have made environmentally efficient buildings a hot trend in commercial real estate. Real estate investors and corporate occupiers have set goals for greater energy efficiency in order to save money and address public and government concerns. Sustainable building standards, such as LEED and Green Globes, also entail strategies that may mitigate risk—such as best practices on indoor air quality - or introduce new risks—such as leakage from vegetated roofs. To protect their investments in green buildings, owners need to address and resolve a range of insurance challenges that aren't encountered in traditional buildings.
The insurance industry is responding with products that address the unique characteristics of green buildings. As more building owners move toward green certification, it's expected that more and more insurance companies will develop products and services for this emerging market.
Determining proper valuation is critical for insuring green buildings effectively. Any special coverage that is purchased needs to be aligned with property costs and value. If coverage limits are higher than necessary, premiums will be unnecessarily high and may impact the investment's profit margin. Recovery following a loss is limited to the actual loss sustained, so buying a higher-than-necessary limit will not generate a higher claim payment from the insurer.
Because green properties have unique qualities, to be made whole following a loss requires that enhancements be added to standard property insurance forms and values be attached to coverage provisions. The insured value for these provisions is specifically quantified, and that value must be determined when the policy is purchased—not when a loss is incurred. Premiums will be charged on the insured limit, so owners must use the most accurate valuations available to avoid paying premiums on uncollectible limits, or they may find themselves lacking full coverage after a loss.
When an insurance policy has an established sublimit for a particular enhancement, it's important to evaluate and understand whether that limit will be sufficient to properly restore it. If not, a higher sublimit should be negotiated with the underwriter. Again, the time to assess what will need to be recovered following a loss is when coverage is bought—not after a loss.
Here are some unique features of green buildings, and some issues to consider when insuring them.
Issue No. 1: Recertification Costs
Property owners incur a direct cost for LEED certification. Recertification may be required following a loss in which the property sustains substantial damage. Recertification costs are not covered under standard insurance policies, but can be addressed in two ways: 1) the insurance company may have a specific endorsement to provide for recertification following a loss, or 2) the property owner may expand the definition of extra expense in a standard property insurance policy to include recertification. (Extra expense coverage is explained in greater detail on the next page.) It's important that customized policy language refer to the level of certification that a property has achieved—Certified, Silver, Gold, or Platinum—and provide for recertification to that level. Additionally, policy language should specifically include costs for LEED-certified consultants and engineers who may be required to participate in recertification. To determine the appropriate limit for coverage enhancement—whether it takes the form of a specific endorsement or the expansion of the extra expense endorsement—care should be taken to include realistic cost projections for fees, consultants, and services, and to reassess them annually as the policy renews.
Issue No. 2: Property Valuation
When an existing property is renovated to include green features, it's important to revise replacement costs and business-interruption values to reflect the changes. For example, if a property upgrades its plumbing system to recycle greywater, the replacement cost should include the additional costs associated with the purchase and installation of the new system.
Issue No. 3: Business Interruption Insurance
Business interruption insurance allows an owner to recover lost income and recurring expenses caused by an insured property loss. Lost income coverage requires accurate identification of rent and other income sources (e.g. vending machines and vendor revenue sharing). If a property sells power generated by its energy system, income lost to downtime should be included in the calculation.
Business interruption insurance also covers expenses that continue if the building is not operational: loan payments and taxes, for example. One challenging aspect of calculating coverage is estimating the time to return the property to full operation following a loss. The length of time for recertification, availability of special equipment that may be required, and the potential complexity of custom installations should be considered. While business interruption is generally available for 12-month periods, 18- and 24-month options are also available for an additional premium.
Issue No. 4: Extra Expense Coverage
Coverage for extra expense is very important to owners of green buildings. This coverage provides additional funds for extraordinary expenditures made by an owner to restore the property quickly. The cost of overnight shipping of equipment is covered, for example, if it allows the building's restoration to be completed more rapidly. Or, if alternative-power-generating equipment is damaged, this provision will pay for purchasing replacement power from a public utility until the property's equipment is fully operational. There is similar coverage for alternative water systems, with the policy paying for the additional cost of purchasing water from another source. Another available endorsement reimburses the cost to flush out a reconstructed space with 100-percent outside air and add new filtration media to conform to LEED. If this endorsement is purchased, it will extend the period of indemnity for an extra 2 weeks to allow work to proceed.
When purchasing extra expense coverage for a green building, it's important to review the coverage sublimit to determine if it's adequate; if it's not, the owner's insurance broker should negotiate acceptable limits with the underwriter. If additional coverage is addressed by expanding the extra expense provision of a standard policy, the underwriter should reference alternate source power and water purchase since standard policy terms may not cover them. Extending the period of indemnity to provide for outside air and filtration work also requires that the policy be endorsed to specifically include it.
Issue No. 5: Vegetative Roof Coverage
Coverage for vegetative or green roofs involves landscape coverage and protection for the water source. Landscaping, which typically means grass, trees, and flowers, is generally excluded from property insurance policies. There are specific endorsements covering vegetative roofs; replacement cost coverage should include the waterproofing layer, soil, and plants.
Issue No. 6: Debris Removal
While debris removal is a standard part of property insurance policies, recycling debris generally adds costs to the process that would not be covered. The additional cost to separate materials should be calculated and included in the coverage limit estimate. Policies for green buildings specifically add coverage for the extra expense to divert debris to recycling centers rather than to landfills. As would be expected, the loss is reduced by any income derived from recycling.
Issue No. 7: Commissioning
There are endorsements that specifically provide coverage for building commissioning. The purpose of this coverage is to ensure that building systems will operate at peak performance, that they will be aligned with one another, and that the HVAC system will be tested and balanced, regardless of whether or not it's directly involved in the loss. It's likely that a standard property insurance policy could be endorsed to include this provision.
Issue No. 8: Personal Property
Insurance is available to replace personal property damaged or destroyed by a covered loss in a building that's not LEED or Green Globes certified. With this endorsement, damaged or destroyed property is replaced with property that meets those requirements. The endorsement applies specifically to systems, furniture, and furnishings. Electronic equipment is upgraded to ENERGY STAR® qualified. Further upgrades can include:
- Low-VOC interior finish materials.
- Elimination of ozone-depleting substances.
- Lighting systems.
- Roofing material and insulation.
- Interior plumbing systems.
- Light commercial HVAC equipment.
There is also a provision that allows a non-green building to be rebuilt to certification standards. Exclusions, sublimits and conditions apply, however, so it's critical for an insurance professional who understands green-building certification to review the endorsements and coverage limits.
The insurance industry's recognition of the special needs of energy-efficient properties is welcome and noteworthy. It is, however, critical to work with a knowledgeable insurance broker or agent, and to meet directly with the underwriter to discuss modifications to the standard policy form so that the coverage purchased provides maximum recovery to the property owner following a property loss. Discussion and value disclosure of all unique features of the property are critical. Review of potential loss scenarios with underwriters prior to placing the insurance may be a useful way to understand the coverage and, more importantly, to articulate what will not be covered.
As the insurance market continues to respond to this evolving need, new products will be created and new features will be added. Owners and investors are well advised to evaluate options carefully, understand the coverage available to them, discuss possible claim scenarios prior to a loss, and properly value coverage extensions.
Janice Ochenkowski is managing director, global risk management, at Chicago-based Jones Lang LaSalle. John Schinter is director of global energy servicesat Jones Lang LaSalle.