A WORRYING trend of increasing under-insurance of farm buildings and infrastructure has come to light following several years of building cost inflation at rates well above the Consumer Price Index (CPI).

District farmers have been hit from a number of directions over the past two years, with livestock price declines, rainfall deficits, higher interest rates and a raft of cost increases across fuel, fertiliser, animal health, machinery and the often overlooked premium for building and infrastructure insurance.

Recently, the general increase in insurance premiums has frequently been raised in the press.

The principal causes cited include: an increase in the number of natural disasters, the increased financial quantum of claim settlements and the falling profitability of insurance underwriting generally.

When one turns to the insurance of building and infrastructure, the problem is compounded by the inflation of construction costs at a rate considerably higher than the CPI.

Thus, premiums are firstly higher due to general inflation within the insurance industry and secondly higher again, due to construction cost inflation.

In this way, a farmer’s insurance costs take a ‘double-hit’ in already trying times.

Insurance is costing a lot more.

Building cost inflation

THE impact of inflation on building costs is probably best explained by comparing the Construction Cost Index (CCI) with data from its inception in 1996 with the CPI (see graph.)

Australian Bureau of Statistics (ABS) data show a significantly higher rate of construction inflation (CCI) compared with consumer prices (CPI).

Of particular importance is the widening of the gap between the CCI and the CPI from early 2021 when the inflation arising from the COVID pandemic started to be felt.

Before that widening, both the CCI and CPI had been running parallel for about eleven years since mid-2009, at which point the pink batts and school building programme introduced in response to the Global Financial Crisis, had rapidly inflated building prices.

The impact of post COVID inflation on building prices is further detailed in Table 1 which shows that Construction Costs have escalated by 28.57 per cent since the December 2020 quarter compared with 17.24 per cent for the CPI.

This higher relative rate might go unheeded by farmers renewing their insurance policies so The Spectator spoke to two local insurance brokers to obtain their insights.

Both brokers concurred in their views which can be summarised as follows:

•            The great majority of farmers have their buildings and infrastructure under-insured. One of the brokers, Beau Munn of Insurance House (formerly Mattiske & Henderson), said that approximately 80 to 85 per cent of farmer clients were under-insured.  The other broker, who did not want to be named, said that a “great majority” were under-insured.

•            Insurance premium rates are likely to continue to increase although perhaps not as quickly as over the past four years.

•            There is no local building cost consultant or quantity surveyor available.

•            Some building insurance work is undertaken by valuers but this is mostly in the residential field for strata title developments.

•            Local builders or shed suppliers/builders can be a source of information regarding re-building prices.

Bearing in mind the possibility of property valuers providing insurance valuations, The Spectator also contacted two local rural valuers.

They both said that insurance values were provided to lenders for mortgage valuations as an ancillary part of the main valuation report.

Furthermore, these assessments were not intended as a recommendation to the farmer but only as a heavily qualified guide to the bank who, in most cases, was primarily interested in the land value as a mortgage security with the buildings being a lesser consideration.

Both valuers also pointed out that the level of reliable farm building cost information was very limited.

They also confirmed that they did not know of any rural building cost consultants.

Allowing for cost escalation

A COMMON misconception among building owners is that the current cost of replacement will suffice as the amount for insurance. 

However, the current cost of replacement will increase during the insurance year.

Additionally, if a loss is experienced late in the policy’s term, cost escalation during the rebuild period will need to be accounted for.

Thus, when undertaking an insurance assessment, it is necessary to take the pessimistic view and assume a loss on the last day of the policy.

Demolition and debris removal also needs to be addressed.

Table 2, which is for explanation purposes only, sets out the type of calculations which could be applied.

From this assessment it can be seen that at a cost escalation rate of 0.5 per cent per month, an increase over current costs of nine per cent is indicated.

Given that costs have escalated at 0.68 per cent per month since COVID, it would appear that a mark-up higher than nine per cent is indicated.

In short, you have to insure with inflation front and centre.

In my past experience as a rural valuer, I have been involved with disputes arising from under insurance.

These often arise from major fire events where there are multiple losses which trigger a locally focussed inflation of material and labour costs.

Frequently, these events result in class actions which enjoy varied success.

Often, these fire-affected plaintiffs are under-insured and are energised into litigation to recoup losses which would have been paid by their insurer had they had adequate cover.

There is a lot to be said for having the right amount of fire insurance and the advice of an independent broker to navigate you through this complex field.

Conversely, there is not much to be said for being under-insured.