Types of Fire Insurance

What is Fire Insurance?

Fire insurance is a form of property insurance that gives protection against losses and damages caused in a fire to a business or a residential property. These protections are policies that financial institutions offer to the general public. The policyholders can claim reimbursement for the amount spent on repairing, replacing, or reconstructing an asset destroyed in a fire. The insurance policies are of fixed value as the exact amount of loss caused due to fire cannot be predicted at the time of policy claim. Therefore, the insurance providers offer the maximum sum assured when an individual files for fire insurance.

Geeky Takeaways:

• A form of property insurance is a fire insurance that protects a business or a residential property damaged or destroyed in a fire.
• Fire insurance is also known as Standard Fire and Special Perils Insurance Policy (SFSP policy).
• Fire insurance policies in India don’t cover fire caused by an earthquake, damage due to willful negligence, spontaneous combustion, loss due to nuclear risks, underground fires, losses due to contamination or pollution, fire set up by public authorities, and risks including wars or foreign invasions.
• Different types of fire insurance: valued policy, average policy, comprehensive policy, floating policy, replacement policy, specific policy, and consequential loss policy.

Types of Fire Insurance

1. Valued Policy

The policy provider offers a predetermined value for an asset or property under this coverage. As the value of a property or asset damaged in a fire cannot be determined, the insurer fixes its value beforehand when the policy is purchased. At the time of claim, the policyholder receives this fixed amount. This predetermined amount is based on the appraised or replacement value of the property. This policy applies to assets such as artworks, jewelry, paintings, and crafts whose price keeps fluctuating.

Features

• Agreed Value: Unlike other types of insurance policies where the value of the insured property is determined at the time of loss, valued policy fire insurance specifies a predetermined value for the property insured against fire damage.
• Guaranteed Payout: In the event of a covered loss due to fire, the insurance company is obligated to pay the agreed-upon value of the property to the insured, regardless of the actual value of the property at the time of the loss.
• Fixed Premiums: The premiums for valued policy fire insurance are typically based on the agreed value of the insured property and are fixed for the duration of the policy term.

Advantages

• Certainty of Compensation: One of the primary advantages of valued policy fire insurance is that it provides certainty of compensation to the policyholder in the event of a covered loss due to fire.
• Simplified Claims Process: Since the value of the insured property is agreed upon in advance, the claims process for valued policy fire insurance is often simplified.
• Financial Protection: Valued policy fire insurance provides financial protection to property owners against the devastating consequences of fire damage.

Disadvantages

• Potential Overvaluation: Since the value of the insured property is agreed upon at the time of policy issuance, there is a risk of overvaluing the property, leading to higher premiums for the policyholder.
• Limited Coverage: Valued policy fire insurance typically covers only losses caused by fire and may not provide coverage for other perils such as theft, vandalism, or natural disasters.
• Fixed Premiums Regardless of Property Value: While stable premiums offer predictability for policyholders, they may also be disadvantageous if the value of the insured property decreases over time.

Example

Suppose you purchase a valued policy for your gold necklace worth ₹80,000. Now, this gold necklace was damaged or lost due to fire. When you claim your insurance, you will receive ₹80,000 only, irrespective of the current value of the same gold necklace in the market.

2. Average Policy

The fire insurance policy has an average clause using which this policy is issued. This average clause is a provision that is applied to the policy when the property is either undervalued or underinsured at the time of claiming. Here, the policyholder can have the actual value of the property higher than the insured amount. This policy is kind of a punishment for the insurer for purchasing a policy of lower value compared to the property’s worth.

Features

• Underinsurance Coverage: This policy protects insurance providers from underinsurance by allowing policyholders to effectively protect their property based on its true market value.
• Reduction in the Claim Amount In this policy, the claim amount reduces proportionately to the amount of underinsurance. Here, if the insured amount is less than the true value of the property, then the amount received would be also less than the total loss amount.
• Equality and Fairness: Although the average policy comes with the disadvantages of reduced amounts for the underinsured policyholders, it allows equality and fairness for all in terms of risk distribution and valuing insurance premiums.

Advantages

• Encourages Effective Protection: This policy encourages policyholders to effectively insure their property with the actual worth, or else they will be penalized for their loss.
• Fair Premium Calculation: Due to the average clause, the insurers pay the premiums which protects both their property and also the risk that they pose to the insurance providers.

Disadvantages

• Penalize the Policyholders for Underinsurance: If the policyholders provide lower value of their property with the intention of paying lower premiums, then at the time of claim, they would receive a lesser amount than the insured amount due to the average clause rule. They would face financial loss in times of actual crisis.
• Challenging Calculation: Due to the underinsurance policy, the calculation of premiums and compensation is complex and challenging. The Average clause formula is given as:

Example

You possess property of worth ₹10 lakhs and you have insured it for say ₹7 lakhs. Now, at the time of damage or loss due to fire, the loss amount was₹8 lakhs. The insurance provider would apply the average clause and offer the claim amount as,

Therefore, the insurance provider will pay only ₹5,60,000 for the loss and the remaining amount (8,00,000 – 5,60,000 = ₹2,40,000) needs to be paid by the insurance holder asa penalty for underinsurance.

3. Specific Policy

Specific Policy Fire Insurance is a type of fire insurance policy that covers only specific properties or assets listed in the policy. Unlike blanket coverage, which covers all properties owned by the insured within a specified category, specific policy fire insurance allows the insured to select and insure individual properties based on their unique risk profiles and insurance needs.

Features

• Limited Protection: A specific policy exclusively addresses the perils or risks specifically laid out in the policy. The risks may include fire, explosion, lightning, and other risks specified by the insured.
• Customization: The insured can customize the insurance to their unique needs by choosing the risks they want protection. This enables a customized insurance solution based on the insured property’s risk profile.

Advantages

• Transparency and Clarity: Specific policy as the name goes have specified and clear terms and conditions and there is no hidden clause for the insured. The insured individuals can make informed decisions based on the said terms and conditions and the perilsthath this policy covers.
• Cost Effective Coverage: The insured individuals can find this policy cost-effective as they covered limited risks and also their premiums are lower compared to other complex policies.

Disadvantages

• Limited Coverage: This feature is a disadvantage as in times of risks that are outside the ambit of this policy, the insured individuals or companies cannot recover their loss due to exposure to other risks.
• Potential for Coverage Gaps: Individuals might miss out on potential risk by underestimating their risk exposure. This would lead to a financial burden to the insured as they would not be able to cover the loss using the fire insurance policy.

Example

If the damaged goods amounted to ₹80,000 and the policy covered only ₹60,000, you would receive the full amount of ₹60,000 as per the policy. This is better than average policy as you will not be penalized for undervaluing your property.

4. Floating Policy

A Floating Policy Fire Insurance is a type of insurance policy that provides coverage for movable property or inventory that is subject to change in quantity or value over time. It is commonly used to insure goods or merchandise that are transported or stored in various locations, such as warehouses, distribution centers, or during transit.

Features

• Multiple Properties Coverage: Under a single floating policy, multiple properties are covered making it easier for insurance holders to pay their premiums and be rest assured. It covers different buildings, structures and assets located in different places.
• Flexible Coverage Limits: The coverage limits are flexible, allowing the insured to customize the insured value depending on the property’s worth or requirements. This flexibilitymakes its convenient to manage the coverage.
• Automatic Coverage of New Policies: In this policy, there is no requirement to amend your policy as new properties and locations automatically get coverage under the single old policy.

Advantages

• Cost Savings: This policy helps insured individuals to cut costs as a single policy is applicable for multiple properties. Further, the policy offers customized discounts and premiums for the policyholders depending on the number of properties held under a single policy.
• Convenience and Efficiency: Policy issuance, premium payments, and claim processing become hazzle-free and convenient due to single policy requirements. The burden of paperwork and administrative work is reduced for the insured.

Disadvantages

• Combined Risk: The risk associated with multiple properties is covered under a single policy. Hence, loss at one location would impact the overall payment and premiums for all the covered properties.
• Complex Claim Settlement: Claims settlement under this policy can be difficult, particularly when multiple assets are involved in the same loss incident. Insurers might have to coordinate evaluations and adjust claims for each property individually, potentially prolonging the claims process.
• Value Assessment Challenges: Here, assessing the valuation of different properties might be a herculean task as assets’ value might fluctuate differently. It makes the insurer prolong the assessing time.

Example

Floating policy is beneficial for business owners who have export-import business. They have warehouses in different locations. The premium charged is typically an average of the premium that would have been paid if specific policies had been purchased for all of these items. The average clause is usually applicable to these policies.

5. Consequential Loss Policy

The consequential loss policy is a type of fire insurance policy that covers businesses against financial losses due to asset loss or damage owing to fire or other insured risks. This policy is also known as business interruption insurance as it covers your business when it gets disrupted due to fire or other related disasters.

Features

• Business Interruption Coverage: This policy covers the loss that occurred due to business interruption occurred due to damage or loss of property caused by fire, explosion, lightning, etc.
• Customizable Coverage Limits: Business owners can customize this policy as per their needs. They can decide the duration of coverage, maximum compensation period, and extent of financial coverage they require.
• Income Protection: This policy ensures to recover of the lost income during the time when the business operations are disrupted or suspended because of damage to property. This involves fixed costs, lost profits, and additional costs incurred to curb the interruption.

Advantages

• Continuity in Business: During the time of disruption, this policy ensures the loss in business operations is covered. This ensures continuity in businesses and recover early from disasters. It thus, minimizes halt in business operations and customer service.
• Provides a Competitive Edge: As this policy is able to protect businesses during times of disruption, the businesses get an edge over its competitors who have not insured themselves under this policy. The competitors would face severe loss while the insured business can operate smoothly.
• Stable Financials: In order to cover the regular expenses, salaries, working capital of businesses, this policy acts as a constant source of income during times of disruption.

Disadvantages

• Different Premium Costs: Based on certain factors (for instance, revenue of business, industry, sector, and location) the premium amount varies. For business under high-risk industries have to pay a higher premium compared to other businesses.
• Process for Claim is Complicated: Under this policy, the issuers require a lot of documents and proof of damage. This verification process is time consuming and complex. If there is delay in the claim processing, then businesses might face further financial loss due to operations disruption.

Example

There is a company from the oil and petroleum industry, who have purchased this consequential loss fire insurance. This business is a risky business as if any fire occurred in the plants, the company would face a huge loss. But this loss can be covered by the insurance policy bought by the company. This can save the business from facing financial stress in times of crisis.

6. Comprehensive Policy

The comprehensive fire insurance covers extensive protection to policyholders. Apart from fire disasters, it protects against destruction caused by either natural or man-made disasters. It also includes perils such as theft, riot, strikes, etc.

Features

• Broader Coverage: As the name suggests comprehensive, a wholesome policy which covers fire, lightning, riots, strikes, earthquakes, theft, natural and man-made disasters.
• Personalized Insurance: Customers can customize their policy coverage as per their own requirements. They can also include coverage for business interruption, and other related perils.
• Flexible Terms and Conditions: Policyholders can use this policy for either adjusting the premium costs, or including certain extra coverage such as legal liability, valuable items or equipment breakdown. This policy can be adjusted as per the requirements of the customers.

Advantages

• Multiple Coverages: Comprehensive policy follows the rule of one policy, multiple coverages. Bu purchasing single policy, one can protect themselves from multiple calamities. This would reduce cost, administration processing and claiming process.
• Risk Management: Comprehensive risk management is a beneficial way for policyholders to cover all the perils. They can effectively manage their risk using this insurance.

Disadvanatges

• Premiums are Higher: This policy comes with higher premiums as it is a wholesome package covering multiple perils and also exposed to multiple risk. Compared to normal fire insurance, this policy is complex and hence, higher premiums are charged.
• Potential for Over-Insurance: Policyholders can over insure their assets leading to higher premium costs. Overinsurance can harm the policyholders.

Example

Insurance companies offer insurance in amalgamated form such as Tata AIG offer fire and burglary insurance which is a form of comprehensive policy.

Conclusion

For protecting your assets from uncertain fire destructions, you should purchase a fire insurance policy so that at the time of loss, some amount can be covered. Property or assets are an important commodity of every individual, and they need to be protected. Further, before purchasing a fire insurance, ensure to read all the policy terms and conditions so that later you won’t regret paying the premium amount. Calculating regular premiums and ensuring coverage for all property and assets from different perils is necessary to ensure a peaceful life.