Overview of Insurance Underwriting for Acquisitions

The insurance due diligence process begins with requesting the seller's loss run reports (claims history for the past 5 years) and current policy declarations pages. Loss runs reveal the frequency and severity of past claims—properties with high claim frequency may face difficulty obtaining coverage or may have significantly higher premiums. The declarations pages show current coverage limits, deductibles, endorsements, and premium amounts. Compare the seller's coverage against your requirements: is replacement cost coverage in place? Are the coverage limits adequate based on current construction costs? Are required endorsements (sewer backup, ordinance or law, loss of rents) included? Is flood insurance in place if required? Gaps between the seller's coverage and your requirements represent costs that must be added to the pro forma.

Insurance premiums are determined by multiple factors that the investor should evaluate during underwriting. Location: proximity to fire stations (ISO rating), flood zone designation, crime rates, and catastrophe exposure. Building characteristics: construction type (frame, masonry, fire-resistive), age, square footage, number of stories, roof type and age, and electrical/plumbing systems. Occupancy: multifamily vs. commercial, tenant demographics, and vacancy rates. Claims history: the property's loss run and the owner's portfolio loss experience. Coverage selections: deductible levels, coverage limits, endorsements, and policy form (named peril vs. open peril). Market conditions: the insurance market cycles between soft markets (competitive pricing, broad coverage) and hard markets (higher premiums, restricted coverage, higher deductibles). Understanding these factors enables accurate premium projections in the pro forma.

Insurance is a significant operating expense that must be modeled accurately. For the initial acquisition pro forma, obtain actual premium quotes rather than relying on the seller's current premium (the buyer's premium may differ due to different coverage levels, loss history, or carrier). If quotes are not available during initial underwriting, use these benchmarks: property insurance at $400-$1,200 per unit per year for multifamily (varies significantly by location and building age), general liability at $150-$500 per unit, and umbrella at $50-$150 per unit. Project insurance inflation at 5-8% annually (insurance premiums typically increase faster than general inflation). Include deductible reserves in the capital budget—a $10,000 deductible per occurrence requires maintaining adequate reserves to fund out-of-pocket costs for smaller claims.