P&CTexashard
A commercial building has a replacement cost of $500,000. The policy requires 80% coinsurance. The insured carries $320,000 of coverage. A fire causes $100,000 in damage (no deductible). How much does the insurer pay?
A$100,000 — the loss is paid in full because it is less than the policy limit
B$64,000 — correct application of the coinsurance formula
$80,000 — the coinsurance penalty applies because the insured is underinsured
D$40,000 — the insurer pays only the percentage of coverage carried
Why this is the answer
Step 1: Insurance Required = $500,000 × 80% = $400,000. Step 2: Insurance Carried = $320,000. Step 3: Coinsurance ratio = $320,000 ÷ $400,000 = 0.80. Step 4: Payment = 0.80 × $100,000 = $80,000. The insured is underinsured ($320,000 vs. $400,000 required), so the insurer applies the coinsurance penalty. The insured effectively becomes a co-insurer for the shortfall — bearing 20% of each loss. Distractor A is the most common wrong answer: candidates assume that because the loss ($100,000) is below the policy limit ($320,000), it is paid in full — but the coinsurance clause prevents this.
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