Shortterm Insurance – Principle of Average Explained

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Average is an insurance concept as old as the industry. And insurance dates back to the time when people travelled through the desert on camels. Average is possibly one of the most important insurance concepts you have to understand. When average bites, it is very bad.

  • This is not advice – this is to help you understand your own insurance better.
  • PLEASE read your own policy wording, as policy wordings do differ – your policy could be totally different from the generic wording that I am using.
  • This is only a summary of the wording.
  • Only your own policy wording will have any value when you claim.
  • Consult with a broker or the insurer before amending your policy

A Google definition of average explains it very clearly:
“In terms of the “average” clause, you are required to insure your assets at their full value. If the sum insured at the time of the loss is less than the insurable value of the property, the amount claimed will be reduced in proportion to how much you are under-insured.”

Here is another Google definition:
“The ‘average clause’ is defined as a clause in an insurance policy requiring that you bear a proportion of any loss if your assets were underinsured or insured for less than their full replacement value. Underinsurance is expressed as a percentage of the full value and that percentage is applied to the claim.”

In normal language: This is just another way of saying that, if your property is insured for less than it would actually cost to replace it, your insurer will pay out only a percentage of your claim. That percentage is the % ratio between the insured value (IV) and the replacement value (RV).  IV/RV x 100.

BUT, is it FAIR?

The question is, is average fair?
Let’s play a game. The game is that you and I jointly own a flock of 100 sheep. We mark the sheep “US” so that we can identify our sheep and they do not get mixed up with other flocks.

One bad night a troop of baboons kills 20 of the sheep. Next day I call you and inform you that the baboons killed 20 of YOUR sheep.

Your first question would be: “How do you know it is my sheep? Surely 20 of OUR sheep were killed?”

That is why average is fair. We share equally in the flock of sheep, so we both lost 10 sheep.

And that is the principle of average.


Underinsurance and average goes hand-in-hand.

When you underinsure your house or content, you accept part of the risk. In effect you become co-insurer of your own assets. That means, just as with the sheep, if there is a loss, you have to carry your part of the loss.

If you insure something that is worth R2 million for R1 million and then that item is a total loss, the insurance will pay the R1 million. But to get back in the same position you were, you would have to find another R1 million from your own sources. It is a 50% underinsurance and you carry your part.

If he house burns down partially and the damage is R500 000, then the payout will R250 000 (minus excesses as applicable!). You have to come up with your part of the loss, which is R250 000. A 50% underinsurance.

Whether it is a total loss or a partial loss, the principle is the same.

WHY do people Underinsure?

Sometimes people just underestimate the value of their property. Remember you have to insure at replacement value VAT included. Sometimes people thumb suck and come up with a value from thin air.

Sometimes people try to save on insurance premiums.

Consider this:  if the premium rate is .3% (0.3% of the insured value per year) it means the monthly premium on a R1 million property is R250. At R1 500 000 the premium will be R125 more at R375. Now you calculate how long you would have to save at R125/mont to get to R500 000. That is why it does not make sense to underinsure in an effort to save on premium.

You must be very sure the saving is worth the risk!

The easiest way to get a fairly accurate value of the building, is to ask a reputable building contractor in your area what the per square meter building costs would be for a house like yours and then calculate the replacement value.

For content you can download the inventory form (it is an Excel spreadsheet) and complete it. As to values, use the adverts inserted into newspapers or visit a store that sells your type of furniture. Do not forget your clothes! We only buy all our content at once when we move out in our own – and that is why we do not have an accurate idea of what it would cost to replace.


It is not financially worthwhile to underinsure.
My experience is that most people understand the principle of average, but when they experience it in their own lives, it goes from the head to the heart and it is very painful.

Please make sure that you have insured all your assets for the correct values.


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