Determining the appropriate insurance for an association property—whether it's owner-occupied or rented out—often involves a lengthy review process with many facets that require your attention. One overlooked detail can cost your community association board thousands of dollars and lead to multiple unhappy stakeholders.
The Basics of What Insurance a Homeowners Association Needs
The first step: Board members should consult their association's own declaration and other governing documents. If the original documents were drafted properly, they should clearly define the areas of responsibility when it comes to providing insurance coverage for individual unit owners and the association as a whole. In most cases, the association will be responsible for covering common areas; commonly-owned property, including most building exteriors, roofs, etc. as well as common liability exposures. So the master property insurance policy will provide protection against liability that may apply to the association as a whole, but not to individual association members/unit owners.
The original documents may also define the type of insurance coverage the association must maintain on the property. Some founding documents, for example, may specify that the association must maintain replacement cost insurance coverage for common areas and all assets under its purview. This is critical, because many insurance policies only provide fair value coverage for insured assets.
The difference? Potentially hundreds of thousands of dollars, in the event of catastrophic damage from tornados, sinkholes, or hurricanes. You need to know what kind of policy you have, as that will impact your payout.
Replacement cost insurance policy: In this case, the insurance company will reimburse you (minus your deductible) with the amount of money it will take to replace lost or destroyed assets with a comparable, brand-new item. If a fire destroys a building that will cost $200,000 to rebuild, the carrier will cut you a check for $200,000, minus the deductible that you selected.
Fair market value policy: In this case, the insurance company will not only subtract your deductible from the settlement, they'll also subtract depreciation. That is, the older the asset, the less the carrier will pay you for it. In many cases, with older assets, your association may only receive a fraction of what it will take to make you whole.
Sure, you will have saved a bit of money on premiums for a while—but that's going to be cold comfort when you have to slap your owners with a massive special assessment to make up the difference after a big storm causes major damage to your roofs.
Key Exceptions to Your Association's Insurance Policy
Amateurs know the rules, professionals know the exceptions. That's true for insurance as much as for anything else. Any property insurance document is going to contain some exceptions to coverage. Boards should look carefully at the exceptions for each insurance policy and consider additional coverage to make up the gaps.
For example, Florida associations need to look carefully at exposures to sinkholes and hurricanes, while California board members should be looking into earthquake coverage—neither of which are normally covered by basic insurance policies.
Everyone should consider groundwater flood insurance coverage and mold coverage.
Policy Coordination for Homeowners Associations
It's important for boards of directors to do their utmost to ensure proper coordination between the association's master insurance policy and the individual homeowners' insurance policies. In the condominium context, the starting point for proper individual insurance policies for owners living in the unit to own is the HO-6 form. These essentially provide insurance coverage from the walls in, and are designed to work seamlessly with association master insurance policies, so that there is a minimum of uncertainty as to whose insurance covers what in specific circumstances.
That said, sometimes there is some confusion and accidental gaps in coverage can arise. For example, not every association master policy will cover things like appliances or interior walls, especially if there have been improvements or upgrades made since the unit was first sold to the original owner. If a condo owner does not procure insurance that covers these interior items, they could be in for an unpleasant surprise.
Some carriers may offer a beefed-up version of condo owner's insurance, HO 17-32. It differs from HO-6 coverage in that it provides all-risk coverage, rather than coverage only against named perils.
Note that the basic, bare-bones HO-6 policy only includes structural coverage (Coverage A) of $1,000. In practice, this is usually not enough. Consider amending your CC&Rs to require a more appropriate level of structural coverage. The same goes for assessment coverage: Suppose that a unit owner negligently starts a kitchen fire that causes $25,000 in damage to common areas. The association may levy a special assessment against that individual unit owner, but be unable to collect because the basic HO-6 policy only provides $1,000 in assessment coverage.
This aspect of insurance planning can quickly get very complex and situation-dependent. We recommend consulting with a qualified legal and insurance professional with specific experience in condominiums in your state.
Those renting out their units should get a landlord insurance policy, such as those modeled on form HO 17-33.
Note: It's a good idea for associations require unit owners to own an appropriate homeowner's or landlord's insurance policy. State laws often don't require homeowners to maintain any specific coverage at all, so your association CC&Rs will have to explicitly state it.
Directors & Officers Liability Insurance
If governing documents specify that the board must maintain a specific level of coverage—such as full replacement value coverage—and the board doesn't, that could result in lawsuits against individual board members.
For this reason, one of the first actions that board members should take is to ensure that the association maintains adequate directors' and officers' liability coverage, or D&O insurance. This insurance functions just like malpractice insurance does for doctors: Few individual board members have enough personal wealth to make good on the costs of a major mix-up by the board of a large condo or homeowners association. If a board member, or the board as a whole, makes a mistake specifically related to board of directors' duties and responsibilities, the insurance coverage protects the owners as well as the board members. The insurance company stands ready to pay off any liabilities that the board may incur as a result of mistakes, misjudgments, oversights, errors, and omissions.
Additional Insurance Coverage for Community Associations to Consider
Employment practices liability: This provides protection against claims arising from employee discrimination, wrongful termination, sexual harassment, faulty benefits administration, wage and hour law complaints, and the like. Remember that the harassment or other misbehavior doesn't have to come from a manager or director to constitute a potential claim. Any employee could harass any other employee, and an owner or renter could spark a complaint as well.
Fidelity insurance: This kind of insurance protects the association against the risk of fraud or embezzlement by an insider or someone otherwise in control of association funds. An association's policy limits should cover what you have in your reserve accounts, a few months of accounts receivable, such as incoming dues.
Host liquor liability insurance: In the event someone holds a social event in a common area and serves alcohol, which exposes your association to risk, this insurance covers you. If someone gets in a car and causes a DUI-related accident, host liquor liability coverage can protect your association from getting sued.
The Bottom Line on Insurance for HOAs
Insurance considerations for homeowners associations are complicated and there's a lot of money at stake. A hole in coverage can cause financial ruin to an individual board member if the board neglects director's & officer's insurance and also to individual owners and the association as a whole if insurance matters are neglected, and the association has to make a big assessment against members who should have had more coverage.
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