Few commercial structures fully meet the applicable jurisdictional building codes and regulations of the county, city, town, borough, village or township in which they are located. And regardless of the source of the ordinance or law—federal, state or local—all structures must comply with all building codes that are in force at the time of construction.

Even a building that is fully compliant when constructed grows noncompliant over time in several aspects of its design and construction. The time required to move out of compliance can range from only a few months to several years, depending on the frequency and nature of changes to local building codes.

And here’s the scary part: Following a major property loss, noncompliance with local ordinances or laws can cost your insured building owner thousands of dollars in out-of-pocket expenses.

Assessing Coverage Gaps

All three forms for commercial property causes of loss—basic, broad and special—specifically exclude increased costs associated with rebuilding, repairing or remodeling a structure in accordance with an adverse building code. Likewise, the business income policy specifically excludes increased loss of business income—as defined in the policy—that results from a lengthened "period of restoration" due to construction delays caused by enforcement of such codes.

Unendorsed commercial property policies limit loss payments to the use of building materials of like kind and quality, paying only to put back what existed just prior to the loss. Further, such unendorsed policies limit coverage to the part of the structure that sustained actual damaged—even when jurisdictional authorities do not allow the undamaged part of the structure to remain, turning a partial loss a total loss.

Similarly, the unendorsed business income policy pays only for the loss of income up to the point in time when the building should have been returned to "operational capability," absent any time extension directly related to the application of building codes. The "period of restoration" could greatly increase as a result.

When a structure suffers “major” damage but is not in substantial compliance with the applicable building codes at the time of the loss, the potential is high for uninsured, out-of-pocket building loss and additional loss of income. These additional expenses and loss of income have the potential to bankrupt a business or, at the very least, cause devastating financial hardships.

Defining ‘Major’ Damage

"Major" damage or loss is not a defined term in local building codes. It simply refers to the point at which the local jurisdiction considers a structure beyond safe repair due to age, condition or previous compliance or noncompliance with building codes. This is the point at which the jurisdiction requires the entire structure be brought into compliance with current ordinances or laws—the point at which a partial loss evolves into a total loss. 

Here are two of the most common statutory guidelines for determining "major" damage:

• Percentage rule: If the subject building sustains damage beyond a set percentage of its value or square footage, the entire structure must be brought into compliance with the current building code.
• Jurisdictional authority rule: Some state laws allow the "authority having jurisdiction" to decide at what point a structure has experienced "major" damage. This could be at 40, 50 or 60% of its value or square footage, or it could be based solely on safety, age or zoning conditions. Several variations of this rule exist.

Neither rule is simplistic in its application. States that use the percentage rule don’t share a common definition of “value,” and those that use the jurisdictional authority rule introduce the problem of subjective opinion—"the rule of the person with the clipboard."

This means that "major" damage could have a variety of meanings depending on the state and the attitudes of the local jurisdictions. Add the federal government's superimposed authority when a structure is governed by flood plain management requirements, and understanding and applying ordinance or law coverage becomes even more important.

Without one common rule—or even a consistent application among the jurisdictions that subscribe to essentially the same rule—agents and building owners must:

1. Know the rules of the state or states in which properties are located.
2. Understand how those rules define "major" damage.
3. Learn about jurisdictional differences of opinion.
4. Understand the application of flood plain management requirements.

How can you secure ordinance or law coverage for your clients? By adding endorsements. Keep an eye on IAmagazine.com and next week’s edition of the News & Views e-newsletter for the concluding portion of this article.

In the meantime, you can also register to join the Big “I” Virtual University (VU) on Wednesday, Aug. 23 for a two-hour webinar, When (and Why) Partial Losses become Total Losses. The session will tackle:

• Ordinance or law-related coverage gaps in property policies.
• Who promulgates and enforces building codes.
• What constitutes "major" damage.
• The details of various ordinance or law endorsements.
• How to develop coverage limits for each coverage part.

Continuing education is available in several states. Remember, every registrant receives a link to the recording as well as the class transcript.

Chris Boggs is executive director of the VU.