More and more Cantabrians are cash settling their earthquake claims. I personally find this a very concerning development and believe that any homeowner wanting to cash settle should think seriously before entering into any such agreement. One should at least seek independent legal or technical advice. At a minimum make sure that you understand the difference between full reinstatement costs (actual costs associated with building a like-for-like home) versus indemnity value (market value of the property in undamaged condition).
A cash settlement represents the ‘Actual cash value” of the loss which is the lower value of used property compared to new e.g. bathroom cabinets that are ten years old are worth less than new kitchen cabinets, so their actual cash value is less than the cost of new cabinets. Homeowners, in order to be fully protected, have usually bought full-replacement policies in many cases which are designed to pay the full cost of replacement even if the cost is of greater value than the item’s current value. Under a replacement-cost policy, the homeowner is entitled to new bathroom cabinets rather than the difference between the actual cash value of the old cabinets and the price of new ones.
Cash settlement is the situation in which EQC or your private insurer pays you (or the mortgage lender) a sum of money in settlement of your insurance claim. You then make the decision to spend the money by either engaging contractors yourself to repair or rebuild your home, subject to any limits placed on the terms of the settlement by EQC, private insurer or lender. If there is a mortgage on the property, then approval from the mortgagee will be required.
Also note that if you should choose to cash settle, the insurance policy on your current house will be reviewed and could be cancelled as part of that final settlement.
The settlement amount is the cost to reinstate your home less the EQC payments you have received and less any insurance excesses still owing.
The big difference between the two is this: in a replacement policy a house’s replacement value cost is set by the construction industry – in a cash settlement policy a house’s value is set by the real estate market.
Insurance companies know from experience that many homeowners are naive or ignorant about the claims process and are apt to accept the first offer made to them. Often the homeowner is led to believe that they can have the necessary work done for less than the insurer is offering. It is not unheard of adjusters suggesting the homeowner do the work themselves and pocket the difference. Remember that the only price that is valid in insurance repair and reinstatement is the price that the specialists who are to undertake the work agree to work for!!
Insurers often pay former contractors/quantity surveyors to provide estimates (I have personal experience of this) when it is so clearly obvious that contractors would never be able to do the job for the sums indicated. Their purpose is to simply provide the insurer with third party ‘credibility’ by supplying a number that the insurer/adjuster can use to negotiate with the homeowner. Hence it is critical that homeowners have written bids from respected contractors who will do the work for those amounts. Do not accept estimates. They are simply guesses.
e.g. painting is almost always included in insurance losses and more often than not adjusters use a flat rate per square meter. Consider the following scenario. A bird has fallen down your earthquake damaged chimney and covered itself in soot and coated several of your high spec painted walls and ceilings with soot. The room is then measured by the adjuster and the square meterage calculated. He allows say $340.00 and tells you this is what the insurer will allow for. But what he does not tell you is that in his calculation he has failed to calculate a pile of other things. Painting rarely involves merely applying paint to the wall. What about the quality of paint, the condition of the walls, preparation for painting, nooks and crannies, furniture removal, switches, lighting fixtures, shelving, doors, windows, mouldings, wall hangings, removal/replacement of curtains and the list goes on. Any of these items will seriously change the price for painting this room. If all of these items were included in the quote as they should have been, then the sum would look significantly different from the one the adjustor quotes. Yet you the homeowner are going to have to pay that latter sum when you go to repair your home. None of these items can be determined over the phone or computed using a specific amount per square meter. Nor do the insurer’s ‘estimate computer programmes’ allow for them.
In order to ascertain a true price the painter would have to come and inspect the work involved, determine what is required (to satisfy you) and then present a detailed quote for you to accept. The same will be required for all other areas in the home that require work.
The calculation of the sum will depend on the insurance policy. For this reason legal advice is recommended. More likely than not, the sum offered to you will only be the insurer’s ‘estimate’ of what it will cost to repair or rebuild (if a total economic loss) your property. The ideal situation is to have your own independent valuation, assessment or appraisal of the property. The insurer does not have the sole right to inform you of what you’re entitled to. Insurers will try to use “fictional” repairs to justify smaller payouts. In fact there are those experts who would say that if there is structural damage never take a cash offer. Neither you nor the insurer can be sure of all the damage and building restoration required. If their cash offer is short of a realistic repair or replacement the difference is YOUR loss and the insurers profit and that is not why you purchased your policy.
If you cash settle you will encounter the following challenges:
Benefits of Cash settlement:
- you will have full management of your repair or rebuild which may speed the process up but this will also mean – you will have to project manage yourself, you will need to organise your own contract work insurance and you will bear the risk of cost overruns and well as technical and other project risks. If the insurance company chooses the contractor, you have the insurance company to fall back on if the contractor fails to complete the job or fails to provide quality work.
- you may find it easier to incorporate non- earthquake repairs or renovations
Issues Associated with Cash Settlement:
- You will have to project manage yourself. You will need to organise your own contract work insurance and you will bear the risk of cost overruns and well as technical and other project risks. You may have to pay for professional project management.
- Your insurer may only be prepared to pay you for ‘like-for-like’ rather than for ‘as-new’ repair or rebuild which will mean that you cannot replace what you had in today’s money as costs will have risen.
- If further earthquake damage is discovered during your repair you will have to re-enter discussions with EQC or your insurer – it is for this reason that homeowners should not sign full and final settlements with their insurer, particularly in view of the history of ‘repairs’ in Christchurch, so far..[i]
- You will be responsible for any shortfall in the situation where your repair or rebuild costs are more than your cash settlement because of demand surge (see https://thechristchurchfiasco.wordpress.com/2013/03/07/demand-surge-and-the-implications-for-policyholders/) and increasing construction costs.
- If you decide not to repair or rebuild, your insurance cover may well be compromised and future sale of the property may also be compromised
- Do not assume that the sum the insurer provides you with is adequate – e.g. unidentified damage will not have been taken into account. In the case of replacement or total loss, a low valuation provided by a valuer who may be on retention by the insurance company will not reflect the true value of the property. Also be aware of overly optimistic estimates by builders and repair companies who have no actual intention of doing the work themselves.
Two of probably the largest unseen risks in cash settlement are settlement of the building in relation to the Council’s flood levels, and lateral movement of the building in relation to the legal boundaries. In order to determine both of these against an insurance policy entitlement it requires a detailed survey assessment to determine how much the building has settled in height, and how much the building has moved in relation to the legal boundaries.Without knowing both of these, owners that have cash settled are finding to their dismay that their house is now deemed flood-prone and un-insurable, and, in some cases, their house is also now over the legal boundary and encroaching into the neighbours property. No cash settlement amount for cosmetic (or even structural) repairs will provide the funds to have the whole building lifted back up in height and moved back into the correct position as required by the legal insurance policy.It is prudent that independent assessments by all of the required experts are obtained by the home-owner prior to even contemplating a cash-settlement. Unless of course, the Insurer takes the risk and the cash settlement is for a total rebuild of the house to policy entitlement. That then would take away any risk transfer back onto the owner.
It is important that you receive full reinstatement costs so have quotes ready to prove the costs involved.
Discuss your cash settlement with your mortgage lender and legal advisor. Check your policy carefully to ensure you have not missed anything – accommodation allowance, storage costs, stress benefits, death benefits etc. One thing you can count on is that the insurer is unlikely to point out what your full entitlements are if you do not claim them.
The material contained in this blog and posts is general in nature and is not financial or legal advice. You should seek independent financial and legal advice as appropriate to your own circumstances.
[i] I note on the IAG web site it states that ‘Your claims manager will give you a ‘discharge form’ to sign. This confirms the settlement amount is a ‘full and final’ settlement of your earthquake claim(s).” http://www.iag.co.nz/News/Documents/Cash%20Settlement%20Factsheet.pdf. This is a rather coy statement. If you sign this document you do so at your own peril as it may prevent you from being able to come back for more funds if the identification of damage has been missed or damage is more extensive than was first assessed and the settlement turns out to be insufficient to carry out the job properly. Definitely seek legal advice before signing any such document.