Updated October 2026
When purchasing commercial property insurance, most business owners focus on the amount of coverage they have and the premium they are paying.
However, there is another important provision in many commercial insurance policies that can significantly affect how much an insurance company pays following a loss.
It is called co-insurance.
Many business owners are unfamiliar with this provision and may not realize that failing to insure their property for an adequate amount could result in a reduced claim payment, even when the loss is considerably less than their policy limit.
At L.D. Dermody Insurance Brokers, we believe understanding co-insurance is an important part of protecting your business.
What Is Co-Insurance?
Co-insurance is a provision commonly found in commercial property insurance policies.
It requires the policyholder to maintain insurance equal to a specified percentage of the property's insurable value.
Common co-insurance requirements are 80%, 90% or 100%, although the percentage depends on the insurance policy.
For example, if a commercial building has an insurable replacement value of $1 million and the policy contains a 90% co-insurance requirement, the business owner would generally need to carry at least $900,000 in insurance to satisfy that requirement.
If the amount of insurance carried is less than the required amount, a co-insurance penalty may apply when a claim occurs.
How Does Co-Insurance Work?
The purpose of co-insurance is to encourage policyholders to insure their property for an appropriate amount.
Insurance companies calculate premiums based partly on the amount of insurance purchased.
Without co-insurance provisions, some property owners might choose to insure their buildings or equipment for substantially less than their actual value, assuming they would never experience a total loss.
The co-insurance clause helps address this by requiring policyholders to maintain an agreed level of insurance.
If the amount of insurance is insufficient, the policyholder may be required to share a portion of an otherwise covered loss.
An Example of How Co-Insurance Can Affect Your Claim
Let's assume a business owns equipment with a replacement value of $100,000.
The insurance policy contains a 90% co-insurance requirement.
This means the business should carry at least $90,000 in insurance on that equipment.
However, the business owner has only purchased $60,000 in coverage.
A fire subsequently causes $30,000 in covered damage to the equipment.
Although the business has $60,000 in insurance and the loss is only $30,000, the insurance company may not pay the entire claim.
The co-insurance calculation is:
Amount of Insurance Carried ÷ Amount of Insurance Required × Amount of Loss
Using our example:
$60,000 ÷ $90,000 × $30,000 = $20,000
The result is:
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Total covered loss: $30,000
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Insurance company's calculated share: $20,000
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Business owner's share due to co-insurance: $10,000
This calculation is before applying any policy deductible.
Even though the business had $60,000 in insurance and suffered only a $30,000 loss, it could be responsible for $10,000 of the damage because it was underinsured.
This is why co-insurance can have serious financial consequences.
What Happens if You Have a Total Loss?
Some business owners assume that co-insurance only matters when they experience a partial loss.
However, the treatment of a total loss depends on the specific insurance policy wording.
Generally, the insurance company will not pay more than the applicable policy limit, even if the actual cost to replace the property is substantially higher.
Co-insurance provisions may also affect the settlement, depending on the policy terms.
For example, if a building costs $1 million to rebuild but is insured for only $600,000, the business owner could face a significant financial shortfall following a total loss.
Regardless of how the co-insurance provision applies, the amount of insurance purchased may be insufficient to replace the property.
Replacement Cost Versus Market Value
One of the most common reasons commercial buildings become underinsured is confusion between market value and replacement cost.
Market value is the amount a property might sell for in the real estate market.
Replacement cost is the estimated cost to rebuild the insured property using materials of similar kind and quality, subject to the policy's terms.
These values can be very different.
For example, a commercial building might have a market value of $500,000 but cost $900,000 to rebuild because of current labour costs, construction materials, building codes and other expenses.
Insuring the building based only on its market value could result in a significant co-insurance shortfall.
For commercial property insurance, it is important to understand the valuation basis required by your policy.
Why Do Businesses Become Underinsured?
There are several common reasons.
Rising Construction Costs
The cost of building materials, skilled labour and construction services can increase significantly over time.
A building insured for an appropriate amount several years ago may no longer have sufficient coverage.
New Equipment or Improvements
Businesses regularly purchase equipment, upgrade machinery and make improvements to their premises.
If these additions are not reported to the insurance company, the existing limits may no longer be adequate.
Outdated Property Values
Insurance values are sometimes carried forward from one renewal to the next without a detailed review.
Over time, the difference between the insured amount and actual replacement cost can become substantial.
Confusion About Property Values
Business owners may use the purchase price, accounting value or depreciated value of equipment rather than its replacement cost.
These amounts may not reflect what it would actually cost to replace the property following a loss.
