Due to shortages in construction materials and labor, insurers can face delays when attempting to resolve claims. (Bannafarsai_Stock/Shutterstock)
The effects of inflation, supply chain issues, labor shortages and elevated construction costs are felt across the entire insurance industry. Property, workers' compensation, liability and other lines of business all face higher costs to resolve claims.
With higher claim payouts, insurers must reassess their insureds' property values to establish appropriate premiums; change the contract policy designs to reduce the length of liabilities; and reduce risk by purchasing reinsurance and maintaining investment income from stable assets.
Although insurers may experience higher expenses and loss ratios with these strategies, they can still grow their profits by increasing rates and exposure while decreasing the length of liabilities and potential claim payouts.
A broader view
Insurers tend to use a formulaic approach to make projections based on historical claims data. In a stable construction environment, using mathematical risk models based on previous claims and policy statistics may suffice. However, in today's construction climate, insurers must adopt an actuarial perspective on the potential risks.
For insurers, rising costs and inflation have a large impact across all lines of business. However, the exact change in costs depends on each line.
Property. A repair or construction project may be valued at a certain amount. But the increased construction costs may exceed the policy limit for the building, leaving a named insured to pay the remaining expense. Insurance companies may also find themselves exceeding their estimated reserves if they pay for subrogation claims.
Workers' compensation. Due to the construction labor shortage, employers have been forced to hire workers who lack proper training and qualifications. Accordingly, these under skilled workers are more likely to get injured, resulting in more workers' compensation claims.
Liability. Due to the increased costs in property construction and repair, and subsequent workers' compensation claims, insurers are at risk for higher liability claims payouts. The liability segment also may face unanticipated impacts of inflation down the road when paying for defense and litigation to protect insureds' liability.
Challenges for all
Due to shortages in construction materials and labor, insurers can face delays when attempting to resolve claims. This may cause insurers to exceed the statute of limitations or policy time element limitations. The inflation of construction costs also may lead to costs that exceed claims reserves and estimated expenses. If inflation is higher than the rates used to establish loss reserves and claims pricing, insurers risk running out of money to pay for claims, potentially leading to coinsurance penalties or underinsured policyholders.
To offset these challenges, insurers can increase both rates and exposure growth and rearrange contract designs and terms to reduce the length of liabilities. This will decrease the coverage period for policies and reduce the length of the liabilities that are assumed. Additionally, insurers can purchase reinsurance to share the risk of additional claims exposure with a reinsurance company.
Risks facing underwriters. Rising costs create challenges for underwriters assessing the amount of premiums to charge for risks. Not all costs are immediately apparent to insurers and may arise unexpectedly, causing insurers to risk running out of reserves. Consequently, underwriters should set premiums that are consistent with losses and inflation rates that are accurate and up to date.
Impacts on brokers and agents. Brokers and agents can review policy limits and reevaluate asset values and replacement costs with their insureds to protect them against unexpected fluctuations in costs. Also advise clients to add an inflation guard endorsement to increase an insurance policy's coverage by a certain percentage every quarter. As a result, policyholders will have a lower risk of being underinsured by their policy.
Effects on claims. Shortages in construction materials due to the manufacturing, transportation, and supply chain process may increase the length of time needed to make repairs for claims. Insurers may be unable to resolve claims quickly. Insurers should ensure that they don't exceed the statute of limitations or policy terms or else they are at risk for fines and imposed penalties.
Jaidan Woo is a student at California State University, Fullerton, and a winner of the Wholesale & Specialty Insurance Association's Spring 2022 White Paper Contest. This article is an abridged version of work that first published at wsia.org.
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