Charging Peter to Pay Paul: Reallocating Risk of Rising Insurance Deductibles

Heather Barker

As community associations’ insurance deductibles continue to rise, associations may consider reallocating their master policy deductibles to unit owners, assuming such reallocation does not already exist in the governing documents. Once, $2,500 deductibles were common, but they now can be $10,000, $25,000, or more. Both insureds (associations) and insurers (insurance companies) can increase deductibles.

Some associations choose higher deductibles as a method to lower premiums. If associations file frequent claims, they could be required to raise their deductibles to avoid being dropped by their insurance company. We see this situation occur often in connection with water damage coverage. With higher deductibles, associations assume more risk, subjecting insurance companies to less risk.

Occasionally, insurers require deductibles to be paid “per unit” damaged, instead of “per event.” Assume your association has a $10,000 per-unit deductible. A pipe bursts, flooding three units. With “per unit” language, your association might pay $30,000 out of pocket before insurance covers any repairs.

Deductibles are not a lack of insurance. An insurance

deductible is a type of self-insurance, because the insured pays that amount before the insurer provides coverage. Essentially, associations are their own insurers for losses below their deductibles. Associations should budget for this expense. As deductibles increase, associations are responsible for more losses.

One way associations manage risk is by reallocating their deductibles to unit owners. Under Washington law, associations may reallocate their insurance deductibles to owners as provided for in their Declarations. See RCW 64.34.360(3).1

In theory, associations transfer their risk of loss

under the deductible to unit owners, who have individual insurance policies to cover that risk. Ideally, the association’s policy and the owners’ policies will provide full coverage, with a low owner deductible remaining to be paid out of pocket. An association’s insurance costs are reduced and the owners pay a small increase on their individual policies to cover the deductible.

As noted above, an association’s declaration must provide for the reallocation of insurance deductibles. Associations can accomplish this only by amending their declarations, if language permitting such reallocation does not already appear.2

How associations choose to allocate their deductibles is based on philosophical reasoning. There are three common

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Associations interested in reallocating their deductibles should seek advice from their insurance professionals and attorneys to help achieve their desired goals. They should also remember that individual owners will need to purchase additional coverage for their unit policies to cover any deductible amount allocated to them.

References 1 RCW 64.34.360(3), which applies to both “New Act” and “Old Act” condominiums, allows expenses to be assessed in accordance with risk/benefit, misconduct, or use. Only risk/benefit and misconduct apply to the analysis presented in this article.

2 Associations should consult with an attorney to confirm their declaration does not contain conflicting language that must be modified.

3 Associations cannot allocate deductibles for common element repairs, absent misconduct. 4 Many associations allocate uninsured damages (i.e., repair costs above and beyond the deductible and insurance proceeds) in the same manner as deductible amounts. This can shift substantial uninsurable costs to owners. Also, individual owners may not be able to insure for earthquakes and floods because of extremely high deductibles.

ways to allocate insurance deductibles: (1) owners of the

damaged property pay; (2) owners whose misconduct caused damage pay; or (3) owners of property from which the cause of the damage originated pay.3

Many associations are quick to adopt the third option and assign responsibility to owners of property from which the damage originated, regardless of fault. This strict liability theory is counterintuitive, however, because unit owners cannot typically obtain insurance for non-negligent acts that damage someone else’s property.4

Associations may take

an insurable loss under their policies and create uninsurable losses for unit owners.

The first and second options are preferable because unit owners can obtain insurance coverage for these losses under their individual policies. Allocating the deductible to owners of damaged property provides the most

straightforward

application of deductible allocation. However, it requires owners to pay deductibles based on mere proximity to the damage.

Allocating deductibles based on misconduct makes owners responsible for their negligent actions and encourages owners to maintain their property. However, negligence is a complex standard that will often result in disputes, even if carefully provided for in associations’ declarations. It often results in a fact-intensive dispute between the association and owner about who should pay.

Some declarations allocate deductibles based on a hybrid approach: First, by misconduct; and second, by whose property is damaged. Regardless of how an association chooses to reallocate deductibles, its goal is the same—to transfer risk of loss under deductibles to unit owners.