Insurance Valuation and Loss Assessment
Insure the cost of rebuilding, not the market value. Get it wrong and average cuts every claim.
Insurance asks a different question from a sale. A buyer pays for land, location and building together; an insurer only pays to repair or rebuild what can burn, flood or collapse. So the value that matters for a building policy is the cost of reinstating the structure, not the market value of the property, and land is left out altogether.
Get that figure wrong and the owner is under-insured. Under the condition of average, the insurer then pays only the same proportion of any loss as the sum insured bears to the true value at risk, even for a small partial loss.
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Bases of Loss Settlement
As IRDAI's master circular describes them for general insurance products.
Indemnity
What is paid
Loss after depreciation, condition of average, salvage and deductible.
Valuer's figure
Reinstatement cost less depreciation for age and condition.
Reinstatement value
What is paid
Indemnity amount without deducting depreciation or underinsurance (as the circular defines it), subject to the policy's conditions.
Valuer's figure
Current cost of rebuilding the structure new, with professional fees and debris removal if covered.
Agreed value
What is paid
The stated amount, without adjustment or average.
Valuer's figure
A value agreed at inception, usually for items hard to value after a loss.
First loss
What is paid
Cover for an amount below the full value of the items.
Valuer's figure
Estimate of the maximum likely loss.
Parametric
What is paid
A stated limit paid when a specified event occurs, without measuring the loss.
Valuer's figure
Not a valuation question.
| Basis | What is paid | Valuer's figure |
|---|---|---|
| Indemnity | Loss after depreciation, condition of average, salvage and deductible. | Reinstatement cost less depreciation for age and condition. |
| Reinstatement value | Indemnity amount without deducting depreciation or underinsurance (as the circular defines it), subject to the policy's conditions. | Current cost of rebuilding the structure new, with professional fees and debris removal if covered. |
| Agreed value | The stated amount, without adjustment or average. | A value agreed at inception, usually for items hard to value after a loss. |
| First loss | Cover for an amount below the full value of the items. | Estimate of the maximum likely loss. |
| Parametric | A stated limit paid when a specified event occurs, without measuring the loss. | Not a valuation question. |
Worked Example: A Factory Building
Illustrative figures. Market value of land and building ₹3 crore. The building would cost ₹1,20,00,000 to rebuild today; it is 20 years old with a total life of 60 years. A fire causes damage costing ₹30,00,000 to repair.
Reinstatement value of building
Working
Current rebuilding cost
Amount
₹1,20,00,000
Depreciation, straight line
Working
₹1,20,00,000 × 20 ÷ 60
Amount
₹40,00,000
Indemnity value of building
Working
₹1,20,00,000 − ₹40,00,000
Amount
₹80,00,000
Sum insured (indemnity policy)
Working
Owner insured for
Amount
₹60,00,000
Loss on indemnity basis
Working
₹30,00,000 less one-third depreciation
Amount
₹20,00,000
Claim after average
Working
₹20,00,000 × ₹60,00,000 ÷ ₹80,00,000
Amount
₹15,00,000
| Item | Working | Amount |
|---|---|---|
| Reinstatement value of building | Current rebuilding cost | ₹1,20,00,000 |
| Depreciation, straight line | ₹1,20,00,000 × 20 ÷ 60 | ₹40,00,000 |
| Indemnity value of building | ₹1,20,00,000 − ₹40,00,000 | ₹80,00,000 |
| Sum insured (indemnity policy) | Owner insured for | ₹60,00,000 |
| Loss on indemnity basis | ₹30,00,000 less one-third depreciation | ₹20,00,000 |
| Claim after average | ₹20,00,000 × ₹60,00,000 ÷ ₹80,00,000 | ₹15,00,000 |
Terms the Module Uses
- Insurable interest
- A financial interest in the property such that its loss would hurt the insured: owner, mortgagee bank, lessee with repairing liability. No insurable interest, no valid claim.
- Value at risk
- The value of the insured property at the time of loss on the policy's basis: indemnity value for an indemnity policy, reinstatement cost for a reinstatement policy.
- Condition of average
- Claim = loss × sum insured ÷ value at risk, applied when the sum insured is below the value at risk.
- Over-insurance
- Sum insured above value at risk. Premium is wasted; the claim is still limited to the actual loss.
- Betterment
- Improvement from replacing old with new. On an indemnity basis it is deducted; reinstatement cover removes that deduction.
- Salvage
- What the damaged property will fetch in the open market. It is deducted from the claim.
Quick practice on loss assessment and valuation basics. No signup.
The Claim Process
- check_circleIRDAI's master circular requires retail non-motor losses of ₹1 lakh or more to be surveyed by a registered surveyor and loss assessor, allocated through the General Insurance Council.
- check_circleThe surveyor submits the report within fifteen days of allocation; the insurer decides within seven days of the report, except for building policies on a reinstatement value basis.
- check_circleLoss assessment is the registered surveyor's job. A registered valuer is more often engaged before the loss, to fix the sum insured, or alongside the surveyor on building reinstatement cost.
How the Valuation Examination Tests This
Expect one numerical question on average and one conceptual question on the basis of settlement. The traps: insuring for market value including land, applying average against the sum insured rather than the value at risk on the date of loss, and forgetting to deduct depreciation from the loss itself on an indemnity policy.
FAQs
What is the condition of average in fire insurance?expand_more
If the sum insured is less than the value at risk at the time of loss, the claim is reduced in the same proportion: loss × sum insured ÷ value at risk.
What is the difference between reinstatement value and indemnity value?expand_more
Reinstatement value is the cost of rebuilding new. Indemnity value is that cost less depreciation for age and condition. Reinstatement cover pays without the depreciation deduction.
Should a building be insured for its market value?expand_more
No. Market value includes land, which cannot burn, and reflects location. The sum insured for a building is based on the cost of reinstating the structure.
Who assesses an insurance loss on a building?expand_more
A registered surveyor and loss assessor appointed for the insurer. IRDAI requires a survey for retail non-motor losses of ₹1 lakh or more.
Next steps
Take a full valuation exam mockTimed and scored, with negative marking.