Most insurance policies contain a deductible. Small deductibles usually mean higher premiums, while high deductibles mean lower premiums because the association is sharing risk with the insurance company.
Paying the Deductible
When property damage from a water leak results in a loss, the question of "Who Pays the Deductible?" ultimately arises. If the association is obligated to pay and the deductible is small, associations will cover it from its operations account. When the deductible is large, boards may need to impose a special assessment on the membership to cover it.
Assuming the CC&Rs are silent on the issue, boards may adopt a policy on handling the deductible in the event of a loss. If, for example, the association's property damage insurance has a $5,000 deductible and an owner suffers a $20,000 loss due to water damage from the unit owner above, the deductible can be addressed in one of the following ways:
1. Origin of the Loss. If a loss can be attributed to an owner's negligence or intentional acts that result in a claim against the association's insurance, the owner who caused the loss pays the deductible. That means the person in the upper unit who flooded the lower unit (if due to his/her negligence) pays the $5,000 deductible. The board can hold a hearing and impose the cost as a reimbursable special assessment against the owner who caused the loss.
2. Benefit of the Coverage. The lower unit that benefited from the association's insurance pays the deductible. In reality, the person does not actually pay the deductible. The $5,000 is deducted from the $20,000 loss, so the amount paid to the lower unit is only $15,000 instead of $20,000. If the person in the lower unit wants to recover the $5,000 withheld from the payout, he can sue the owner of the upper unit in small claims court.
3. No Negligence. If no negligence or intentional act caused the loss, the deductible is (i) covered by the association or (ii) apportioned against all claimants according to the percentage each claim bears against the total of all claims for the loss. For example, the unit owner suffered a $20,000 loss to his unit, and the association suffered $10,000 in damages to the common areas. That means the unit owner is responsible for 2/3 of the deductible ($3,333), and the association is responsible for the remaining 1/3 ($1,667). As noted above, no one pays the deductible; the proportional amounts are deducted from the respective payouts.
Saving for the Deductible
To avoid special assessments to cover large insurance deductibles, some associations set aside funds to pay the deductible in the event of a loss. The question is where to put the money.
Operations. Insurance deductibles don't fit into operations because they're not annual expenses. The payout of a deductible depends on the filing of insurance claims, and associations can go for years without a claim. Putting it in the budget means the deductible must be fully funded in the 12-month budget cycle, which may strain some budgets. It also creates a surplus at the end of the year, assuming no claims are made. Nonprofit corporations are supposed to break even, not run planned surpluses.
Reserve Account. Because deductible payouts are periodic, they seem to fit into reserves. However, they don't meet the definition of a reserve component. Their life cycle is unpredictable and may not involve repairing or replacing a major component in the common area. Even so, the reserve fund appears to be the better place for insurance deductibles--it allows funding over 2 or 3 years and avoids annual budget surpluses.
Deductible Fund. The best way to handle the issue is to create a separate fund while keeping the money in the same account as the reserves. Associations can include a line item in their budgets for an "Insurance Deductible Fund" and contribute to it over 2 or 3 years. If the insurance deductible is $10,000, boards could budget a modest $278 per month to the fund. At the end of three years, the insurance deductible would be fully funded. At that point, the contribution could be discontinued until an insurance claim is made, at which point the deductible would be replenished with new contributions.
In the alternative, the contribution could be permanent to avoid budget swings. At the end of the three years and thereafter, any excess funds in the deductible fund could be transferred to the reserves. This provides for a smoother budget and has the added benefit of building reserves.
When Deductible Starts
The deductible obligation does not begin when the association starts incurring expenses. It starts when the board tenders the claim to the carrier. That means the board cannot apply pre-tender expenses against the deductible. This situation often occurs when the board involves corporate counsel and incurs significant legal fees before finally tendering the claim. If the board immediately tenders the claim and then incurs significant legal expenses, they can be credited against the deductible obligations.
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