In our automated age, it was only a matter of time before equipment breakdown coverage was introduced in homeowners insurance.
This and other publications have documented the growth and transformation of equipment breakdown (EB) insurance, which covers losses to equipment caused by “accidents” within them, losses that are typically excluded from coverage under standard property forms.
Twenty-five years ago “boiler and machinery” coverage, as the line is sometimes called, was largely confined to industrial risks that had unique exposures for motorized equipment or steam boilers.
Since then, equipment breakdown insurance has expanded in scope as it has come to be applied to the networks of electronic equipment upon which almost all commercial operations depend.
As a reflection of this trend, AAIS has been adding equipment breakdown coverage parts to its programs over
the past 10 years.
The endorsements have been developed in conjunction with The Hartford Steam Boiler Inspection & Insurance Company (HSB), a leading writer of equipment breakdown coverage, but the endorsements can be used with any equipment breakdown reinsurer.
The process started in 1997 with the introduction of equipment breakdown coverage parts in the AAIS Commercial Output Program. In subsequent years, counterparts were developed for use with other AAIS commercial lines programs.
In 2004, AAIS introduced equipment breakdown coverage in its Farmowners, Farm Properties, and Agricultural Output programs.
Now, in the latest expansion of the application of equipment breakdown, AAIS will initiate a countrywide filing in 2007 of two equipment breakdown options under its Homeowners Program.
Both insurers and homeowners have compelling reasons to be interested in this emerging new coverage, according to Michael Fusselbaugh, HSB’s senior vice president for strategic business development.
“Companies and agents are looking for ways to add value and offer choices to their clients,” he says.
To that end, HSB is marketing homeowners equipment breakdown coverage to primary carriers as “a new and unique coverage that makes your homeowners policy distinct in a market of look-alike products.”
Equipment breakdown losses are explicitly excluded under standard homeowners policies, leaving insureds--especially those with “high-end” homes--with a potentially substantial gap in coverage.
“Newer, large homes have more infrastructure equipment than in the past,” Fusselbaugh says. “Some require multiple heating or air conditioning units.
“Many are being constructed with more built-in equipment like stoves in center islands, wall-mounted ovens, security systems, and communications systems.
“In some regions, permanent electricity generators are becoming more common.”
Automated homes
There’s much more to come in home automation. Experts say that our homes won’t simply have equipment in them, but they will be working systems in and of themselves.
Microsoft Corporation has created a model home that tells you how to cook a meal or manage a wash load, thanks to built-in scanners that read codes on groceries, clothes, and other items. The house literally talks to you, telling you when you’re missing an ingredient or that you’ve mixed whites and colors.
The model home is no futuristic fantasy for the rich and famous, but a “vision of what the average person’s home might be like in five to 10 years,” reads a report on Microsoft’s corporate website.
“Wired Home,” a special publication of Wired magazine, estimated that more than half of all houses built in 2006--”not just the upscale ones”--had “structured wiring” installed for facilitating home automation.
That automation will be tapped for more vital purposes than laundry and recipes.
“In the event of a fire,” the publication states, “the house could sound an alarm, call the fire department, turn off the HVAC to stop smoke from spreading, broadcast evacuation instructions, and even flash the lights to guide the fire department.”
Sensing current demand and future growth, at least four primary companies have announced that they are now making equipment breakdown coverage available in their homeowners programs: AIG’s Private Client Group; American National Property & Casualty, Springfield, Mo.; Grange Insurance, Columbus, Ohio; and Mutual Assurance Society of Virginia, Richmond.
HSB expects at least 20 more companies to introduce the coverage in 2007, and HSB is not alone among equipment breakdown insurers in offering the coverage.
Mutual Boiler Re, Malvern, Pa., also provides the coverage through reinsurance relationships with primary homeowners carriers. The Mutual Boiler Re website emphasizes that, for homeowners, the coverage is a cost-effective alternative to product and home warranty plans, which are limited in the protection they provide.
Product warranties and service contracts typically cover only one piece of equipment for defects in its design or assembly, and most of the former do not cover breakdowns arising from human error in the installation, operation, or maintenance of equipment.
Virtually no product warranties or service contracts provide coverage for loss of use of a home in the event an equipment failure makes it uninhabitable.
In short, homeowners commonly find themselves completely unprotected from loss from failures of key household equipment.
For AAIS Homeowners affiliates, that could change under two equipment breakdown endorsements AAIS is filing.
The language of the endorsements will be familiar to any P/C professional with a basic knowledge of equipment breakdown coverage.
The two endorsements extend coverage under the policy to losses resulting from “accidents” that result in damage to “covered equipment.” That term is explicitly defined to mean property insured under Coverage A - Residence or Coverage B - Related Private Structures that generates, transmits, or utilizes energy, or that operates under vacuum or pressure under normal use.
Covered types of losses include:
- Sudden and accidental mechanical or electrical breakdown; and
- The sudden and accidental tearing apart, cracking, burning, or bulging of a steam or hot water heating system or air conditioning system.
Both endorsements state that the coverage provided under them does not apply to electronic entertainment or computer equipment, kitchen or laundry appliances, and other specified property.
What sets the endorsements apart is that one of them extends coverage to kitchen and laundry appliances that are permanently installed in the structure of the insured residence.
Three types of coverage are provided under the AAIS Homeowners equipment breakdown coverage extensions.
Coverage for direct physical damage to covered property is provided up to a built-in limit of $50,000 under each endorsement; the insurer can specify a higher limit on a schedule that appears on the endorsement.
In addition, each endorsement extends Coverage D - Additional Living Costs and Loss of Rent, to losses caused by equipment breakdown. This coverage is subject to a built-in limit of $200 per day, up to $1,000 per accident, unless higher limits are shown on the schedule.
Finally, the endorsements extend the Homeowners coverage for Refrigerated Property (perishable food, medicine, etc.) to such property that spoils because of a breakdown of equipment. This coverage is provided up to a built-in limit of $500 per accident; again, a higher limit can be identified in the schedule, but the refrigerated property coverage does not increase the overall equipment breakdown limit.
For physical damage and loss of use, the equipment breakdown endorsements include deductibles that are built-in at the level of the policy loss deductible for fire loss, with the option to create a different deductible, higher or lower than the fire loss deductible.
“This coverage is another tool AAIS is making available to our affiliates to help them have a competitive edge in their markets,” says Susan Luecke, AAIS assistant vice president for personal lines and principal developer of the AAIS Homeowners Program.
Luecke notes that there is already coverage in standard homeowners forms for certain types of losses arising from breakdowns of equipment.
For example, if a furnace overheated and caused a fire, there would be coverage for building and personal property damaged by the fire and smoke, even without the equipment breakdown endorsements.
Similarly, if a hot water heater suddenly burst and spilled water, there would typically be coverage for the water-damaged property under forms with broad or open perils coverage.
What the equipment breakdown endorsements add is coverage for the loss to the actual equipment that suffers an accident, whether or not there is damage to other property.
In this respect, homeowners equipment breakdown coverage creates an interplay between product warranties for the covered equipment and the equipment breakdown coverage.
“The question of warranties always comes up in discussions,” says Fusselbaugh at HSB.
He cites two reasons why EB coverage in a homeowners policy might be more attractive and beneficial to homeowners than the typical product or “whole home” warranty.
- The terms and conditions of warranties vary greatly, making it complicated to settle losses. In comparison, homeowners equipment breakdown coverage can simplify the adjustment of both equipment and standard property losses.
- The aggregate cost of warranties will, in most cases, exceed the cost of equipment breakdown coverage.
“As coverage extensions, we anticipate that these equipment breakdown enhancements will command only a small fraction of the overall homeowners account price,” says Fusselbaugh. “For most homes the cost will be less than 5% of the current homeowners package.”
HSB is counting on the relatively low cost of equipment breakdown coverage to help avoid adverse selection.
When asked why someone would not wait until equipment has aged before buying the coverage, Fusselbaugh replied, “With a marginal extra cost, we should get greater participation, and that should help reduce the possibility of adverse selection.”
Warranties aren’t going away, however, because equipment breakdown coverage will not, in any event, cover a system’s failure to operate as intended.
As it is, AAIS is rewriting the “other insurance” provisions in its homeowners base forms to address situations presented by the interplay of product warranties and insurance, with or without equipment breakdown coverage.
In one provision, wording is added to state that coverage does not apply to loss, cost, or expense that is also covered by any warranty, plan, or agreement that provides for the repair or replacement of property.
Another provision adds that “this homeowners insurance is excess over any amount payable by such warranty, plan, or agreement.”
Provisions such as these, as well as the equipment breakdown deductible, are designed to prevent equipment breakdown coverage from transforming homeowners policies into home maintenance contracts.
“The equipment breakdown deductible selected by the insured removes many of the small, maintenance losses,” Fusselbaugh says. “Warranty reimbursements may then cover much of what would be under the policy deductible.”
At this point, AAIS is filing only the endorsements and corresponding rules for homeowners equipment breakdown coverage. Even when they take effect, primary insurers will be dependent on their equipment breakdown reinsurers for rating information and underwriting expertise, says Luecke.
Their success in selling equipment breakdown coverage profitably will depend on the quality of their relationship with their reinsurer, she says.
For example, the equipment breakdown coverage endorsements include standard exclusions for “wear and tear,” and reasonable people can disagree about what constitutes “wear and tear.”
Industrial insureds that have long been purchasers of equipment breakdown coverage are accustomed to the idea that there will be disputes over the allocation of claims among insureds, property carriers, and equipment breakdown reinsurers.
It’s an entirely different matter when the coverage is introduced into personal lines, where there is an assumption that the policyholder is not a sophisticated insurance buyer.
The primary carrier would bear the burden of either:
- Telling an insured that coverage he or she bought for a specific purpose could not be granted because of circumstances surrounding a loss; or
- Paying the loss and hoping the equipment breakdown reinsurer would cover it.
Either way, “the insured sees one face,” says Fusselbaugh, and that face needs to reflect a strong underlying relationship.
Equipment Breakdown Coverage in Homeowners Insurance 
