Condo Insurance Issue Hit Home

I received a letter this week from the Board of the Association for an investment condo I own.  It seems that our project in East Oahu has insufficient insurance coverage.  What the letter contains and the options they provided will shed light on the issue plaguing most of the state.  I’ll also share my thoughts as to what the association needs to do to address the situation.

Section 514B-143 (a)(C) of the Hawaii Revised Statues provides that unless otherwise provided by the Association’s declaration or bylaws, the Association must purchase property insurance covering “the full insurable replacement cost of the property”, including increased cost of construction due to building code requirements.

This only makes sense, as the primary fiduciary duty of the HOA is to protect and maintain the assets of the project.  In the case of our project, Mawa’ena Kai, marina fronting 2-story project with 104 units in Hawaii Kai.  The project is constructed of wood.  The current estimated cost to rebuild if totally destroyed is $56 million.  I don’t know how it happened, but the association currently only carries $10 million in coverage.  I can’t seem to get an answer from anyone on either the board or the professional management company as to how long this gap has existed.

The letter from the board went on to explain that projects like Mawa’ena Kai are having difficulty obtaining additional coverage due to the changes in how insurance companies evaluate risk of loss in our Aloha state.  Hawaii has now been placed in the high-risk category for determining premiums.  In the last couple of years, the amount of insurance claims filed in our state has exploded.  This is not only due to the Lahaina fire, but most of the high-rise condo buildings in our state were built prior to 1980.  These projects are now 50-70 years old and suffering from bursting old pipes.  Least we do not forget that most of these buildings also don’t have fire sprinkler systems.

The single-family home market has also seen their fair share of claims in the past few years.  I had a friend that bought a home in Makiki four years ago.  He told me that shortly after they purchased the home, they were able to get a completely new roof, paid for through an insurance claim.  I was also at a small gathering at another friend’s home recently.  I met a very nice guy and started talking.  When I asked what he did for a living, he said he worked for various roofing companies.  His job was to drive around looking at roofs that needed to be replaced.  He would approach the homeowner telling them how with his help they could get a new roof by filing an insurance claim.  Makes you wonder why we see so many roofing commercials on TV these days.

The problem of insurance companies losing money in our market is so severe it is impacting home purchasers the ability to obtain coverage on the home they wish to purchase.  As a Mortgage Broker, we help our clients obtain multiple insurance quotes for the home they are buying.  We have found that if you are buying a home with an old roof, you are not going to find an insurance company willing to issue you a policy.  If that asphalt shingle roof is over 15 years old, it will be difficult to obtain coverage.

Returning to the insurance issue with my condo, the board stated that to obtain the required coverage, they would need to buy coverage from three separate companies, as no single company wanted to have that great of an amount of total exposure in one project.  They also needed get this insurance from what’s called “surplus lines”.  This is another term for insurance carriers with offices outside of our state and not subject to the constraint of the State’s Insurance Commissioner and his ability to regulate what they charge.

The additional coverage is going to cost almost $500,000 per year.  That’s about $5,000 per unit in additional AOAO expense each owner will need to pony up through an increase in the monthly maintenance fees collected.

But wait!  The board dangled an amazing solution to the owners, and this is the primary focus for today that I want every condo owner to understand.

The board suggested that as an alternative, an amendment to the association’s declarations and bylaws could be passed that would allow the association to not fully insure the project.  State law says the association must get full coverage unless 67% of the owners agree to carry less insurance.

I understand as well as anyone that we are all feeling the pinch of hard economic times.  This added insurance will more than double my monthly HOA fee.  It will increase from $744 to $1,638 going forward.  While many may not be able to afford such an increase, the ramifications of electing to go with insufficient insurance coverage are severe.

The board’s letter went on to point out that there are serious factors to take into consideration.  They stated “For example, if the property is not insured for its full replacement value of $56 million and a catastrophe causes more than $10 million in damages, the association would not have enough insurance to restore the property.  This could result in large special assessments, bankruptcy or possible termination of the project”.

“There is also the possibility that mortgages to purchase or refinance units would not be available because the project is not insured for its full replacement cost.  And its also possible that lending institutions may declare existing mortgages in default if the property is not insured for its full replacement cost.”

No matter the cost, there’s no ethical way the project should go forward without sufficient insurance coverage.  This lead me to the next set of questions for the AOAO, and you should be asking the same questions to your board:

• Was the previous coverage more than $10M but was reduced by the carrier?
• Was the previous coverage 100% replacement coverage?
• Has the replacement cost of the project increased in the last 2 years?
• What was it in 2022 and 2023?
• Is this policy only for fire?  One of the exclusions listed is wind.
• If this policy excludes wind (hurricane), what are the policy limits for that policy?
• Did the board shop around and obtain quotes from other insurance carriers?

It is my understanding that our association only obtained quotes from their current insurance provider.  That’s seems very lazy.  With such a huge amount of money going forward, I would think shopping around would be a high priority.  I also want to know if the board was asleep at the wheel.  Did the project have insufficient coverage for the past few years, yet no one did anything about it?  It would sure be strange that $10 million was okay last year, but now the project’s value has gone up to $56 million in one year?

There’s been lots of talk about the State stepping in and somehow rescuing condo and homeowners from this insurance crisis.  That’s not going to happen.  The state tried its hand in the past when it set up the “Hurricane Relief Fund” to offer insurance for homeowners after Hurricane Iniki, which forced many insurance carriers to halt offering coverage.  That policy of last resort did provide homeowners with a means to get insurance when none was available, but the premiums weren’t cheap.  The State also levied a tax on all real estate transactions to help fund the program.  And here’s a shot of irony - during the life of the program, Hawaii didn’t have any hurricanes.  Within a few years insurance companies were once again writing hurricane policies and the fund was no longer needed.  What happened to all the money collected from the real estate transactions and policy premiums?  If you guessed the state refunded the money, you’d be wrong.  The fund was closed, and the money was transferred to the general fund.  In other words, the state spent it on other things.

The bottom line is that condo associations and owners cannot gamble on the chance something bad won’t happen.  Insurance is a critical necessity.  What we are all experiencing today should be a wakeup call that the cost to own a property, condo or house, can have unexpected increases.  When budgeting how much you can afford, you should also consider that those costs will rise over time.  Qualifying for the maximum today may leave you short tomorrow.

And lastly, don’t expect the government to bail us out.  They don’t have some magic pot of money they can reach into to give to us.  We the people fund the government.  The only money in their pot is the money they’ve already taken from us.