Real estate risks vary as much as the types of properties. Whether it’s commercial, industrial or residential real estate, these operations present risks that require a range of insurance solutions, from property/casualty and business interruption insurance to directors and officers (D&O) and cyber protection. But finding appropriate coverage for real estate risks is never simple, and usually involves multiple underwriters to cover a single exposure.

What makes real estate such a complex risk? There are many reasons:

  1. Different elements intersect. Even the most straightforward real estate deal involves many parties and multiple elements: the lease, the lenders, the assets, the location, the owners and the lessees. The quality and location of a building affects not only the purchase price for the owner, but the particulars of a lease and the party leasing the asset. For instance, a Class A office building located in a high-rent area will command a higher price than a Class B or C building in a less-desirable geography, but that doesn’t guarantee success in attracting tenants and delivering an acceptable return on investment.
  1. Many stakeholders. Beyond building owners and managers are investors, who pour billions into private real estate investment funds. Private equity raised $288 billion in 2021 for commercial property acquisitions alone.1 Investors include pension funds, high-net-worth individuals and insurance companies. These parties often have different goals and levels of risk tolerance — a pension fund may want lower risk in exchange for a lower return, while private equity may demand higher returns while shouldering the increased risk. Real estate fund managers also have a fiduciary duty to deliver agreed-upon investment returns — a failure to achieve those returns invites legal action from investors.
  1. Litigation and lawsuits abound. Risks to directors and officers can be particularly fraught because of real estate litigation, and the rising cost of D&O insurance reflects those risks. In the past five years, premiums have risen based on claims related to litigation and lawsuits, largely due to investors’ dissatisfaction with management decisions and investment returns. HUB has estimated D&O cover in real estate will rise 10% to 20% in 2022.
  1. Valuation risks are often overlooked. Replacement costs of buildings may not have been adjusted over time. When there’s damage resulting from a fire, faulty roofing or bad plumbing, owners that have not taken this into account will be in for a surprise when their insurers do not pay full replacement costs. In addition, lumber and other supply chain-dependent materials prices have risen, and overall inflation has made it more expensive to make repairs and replace damaged buildings.

Those risks multiply for condominium board members, whose unit owners can be hit with assessments if the building is underinsured. The complex risk is just as high for those managing real estate trusts, as declining returns due to underinsurance can quickly result in investor litigation.

Managing complex risk in real estate

Although the complex risks in real estate can’t be removed, professional risk management and smart insurance practices can mitigate the consequences.  

Creating a risk matrix is a good place to start: Determine the greatest risks in terms of frequency and severity, which can help real estate operations find the most urgent exposures in need of immediate remediation. A risk matrix often uncovers complex risks that management may not have considered, such as litigation risk.

The risk matrix also can identify insurance coverage gaps. For example, a real estate company may not have previously considered enhanced D&O coverage or parametric insurance that pays when a specific event (such as a hurricane) occurs, regardless of the damage to property.

The complex risks in real estate demand complex solutions, often requiring a broker to identify multiple carriers to develop an insurance tower or layered coverage, or find coverage from foreign carriers, such as those in the Lloyd’s of London market. Real estate operations needing these types of insurance structures need to rely on their insurance broker, who will have the relationships and market knowledge to make it happen.

It’s also important to understand that every insurance carrier has its own requirements for submission, whether that’s heavy analytics on weather data, proof of improving profitability, a good relationship with management, or all of the above.

Contact HUB International’s complex risk experts to learn more about navigating risk in real estate.

1 Commercial Observer, “Private Equity Investors in Commercial Real Estate: Easy Does It Now,” June 6, 2022.