Business Interruption Policy Wordings. Harry Roberts

the lessees’ business is affected. The risks will be defined elsewhere in the lease but usually correspond to defined risks under an all risks policy. There is a maximum period, specified in the lease (usually three years), during which the rent ceases to be payable.

      1.5.2Rent Receivable

      1.5.2.1Current position

      Businesses for which rent is the main revenue for their business, that is, property owners, will usually have specific Gross Rental policies.

      However, many businesses earn rent as an incidental part of their business; from owned buildings no longer needed by the business, from subletting of larger leased premises or as part of an investment portfolio. It is, therefore, desirable for Rent Receivable to be insured under a Gross Profit or Gross Revenue policy, as part of the income of the business.

      Alternatively, Rent Receivable is sometimes insured under the material damage cover rather than BI cover, particularly in the case of landlords. It should be noted that this form of cover is not as extensive as that provided under a BI wording, because the Indemnity Period automatically ceases when the repairs are complete. If rent is insured under the material damage section, the cover ceases at reinstatement. However, if rent is covered within a gross profit item often the Indemnity Period is not aligned to the rent cessation clause; the cover will continue until the Premises are reoccupied by a tenant as opposed to being reoccupiable.

      Leases commonly contain cessation clauses. In some cases, the lease will also specify a minimum period, of up to three years, after the cessation commences in respect of which landlords should insure the rental income under the lease.

      Leases are subject to review at fixed intervals, at which times the rent may increase by significant amounts. In the event of a loss, unlike most Gross Profit claims, a reduction in Rent Receivable is not ameliorated by significant commensurate savings.

      1.5.2.2What is the problem?

      Although not an integral part of their business, many companies will receive rent payments. It is vital to include all of the constituent parts of an insured’s business that might be affected by an interruption in the policy business description. If the particular activity is not identified within the definition, the policy cannot respond to the losses incurred by that part of the business.

      Consider, for example, the case of an office block owned and partially occupied by the insured for its business, with a portion sublet to a third party tenant. In the event of an interruption, unless ‘property owning’ has been \defined as part of the business description, the policy would not respond to any loss of rent receivable from the tenant.

      Even if the policy has been extended to cover rental income, the overall rate of gross profit is likely to be substantially less than that attaching to the rental income, which may well be 100%.

      In the absence of a rent cessation clause, this is not an issue from the landlord’s perspective. However, if the lease does contain a rent cessation clause (common in modern leases), the potential for an uninsured loss of rent may exist. The reduction in Rent would only be payable if the business activity specified in the schedule has been expanded appropriately. This applies equally to freeholders and tenants who sublet.

      If the landlord insures Rent Receivable, this may raise the question as to the need for the tenant to effect insurance for Rent Payable, ostensibly insuring the same income stream twice.

      There is frequently a mismatch between the basis of the insurance of Rent Receivable and the underlying lease.

      The term ‘Rent’ as defined above may be insufficiently wide to address losses presenting themselves. Related income streams such as service charges, advance rent and ancillary charges may all be at risk and should potentially be brought within the ambit of the cover.

      Where there is a minimum period stipulated by the lease, this may well exceed the Maximum Indemnity Period provided under the businesses’ BI policy. It would be costly to increase an indemnity period solely to cater for Rent Receivable when it is incidental to the main business.

      Rent losses are more likely than Gross Profit losses to exceed the limit of 133.33%. This is because significant step increases in Rent Receivable may accrue within the Maximum Indemnity Period, compounded with the absence of \significant savings to deduct from the income loss.

      1.5.2.3What are the consequences?

      If the description of the business has not been appropriately expanded to include the receipt of rent and related income streams, a reduction thereof after an incident will not be payable.

      Rent may be insured more than once; if the lease contains a rent cessation clause it is usual for the landlord to arrange loss of rent cover (and re-charge the premium to the tenant as part of the rent). If the tenant is funding the landlord’s rent premium by way of a re-charge, and is additionally insuring it as a constituent element of his Gross Profit, they are in effect paying twice for the same thing.

      Where there is a mismatch between the insurance cover and the underlying lease, an under-recovery might arise.

      In one case, a large retail chain discovered that it was insuring Rent three times. The landlord was insuring Rent (with a rent cessation clause in the leases) and charging the retailer its cost; Rent was not deducted from the Gross Profit calculation and so was included within the sum insured for the full three-year indemnity period; and, further, there was a separate Rent Payable sum insured on the business interruption policy. It was discovered that approximately £20,000 was being spent on unnecessary rent cover each year.

      1.5.2.4Potential solutions

      Rent Receivable may be insured if the description of the business is appropriately framed.

      For the avoidance of doubt, a departmental clause should be incorporated to provide a true indemnity if different parts of the business likely to be affected by a loss earn differential rates of profit or revenue.