Building costs are forecast to increase by approximately 15% over the next five years, with tender prices predicted to rise by 16%. Meanwhile, labour costs are growing at a rate of 7% year-on-year1. Combined with longer rebuild timelines, the gap between insured values and actual reinstatement costs is widening.
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This misalignment increases the risk of underinsurance, which leaves your assets vulnerable. Although underinsurance continues to be a widespread issue, we're increasingly seeing instances of overinsurance. Both scenarios lead to financial inefficiencies and unnecessary business risks.

The impact spans all asset classes — from commercial buildings and public infrastructure to industrial plants and machinery — where assets are often misvalued, depreciated incorrectly or insured on outdated replacement figures.

Understanding the valuation gap: A portfolio-wide problem

Problems arise when the insured amount for the asset doesn't match the asset's true replacement cost. This valuation gap creates a dual risk:

Underinsurance

In this scenario, the insured value of the assets is insufficient to cover the total cost of replacement or rebuilding at today's market rates. If a loss occurs, the insurer will reduce your payout proportionally, exposing you to an unplanned financial loss.

Overinsurance

Here, assets are insured for a value significantly higher than their true Reinstatement Cost Assessment (RCA), which means you pay more for no extra payout. The premium paid on the surplus value is therefore lost, yielding no additional benefit in the event of a claim.

An estimated 70% of commercial sites in the UK are underinsured. At the same time, 23% of properties now appear overinsured due to index-linking drift and conservative adjustments after inflation spikes2.

The valuation gap: Top 5 risks to your property portfolio

When properties or assets are insured at incorrect values, the impact isn't just limited to a single site or a worst-case scenario. It becomes a portfolio-wide issue resulting in:

  • Reduced claims pay-outs: If an asset is underinsured, even a partial loss is settled at a proportionally lower rate. For example, if a building is insured for 70% of its actual reinstatement cost, any claim may only be paid at around 70% of the loss. Your organisation would then cover the shortfall.
  • Pressure on reserves and cash flow: When insurance fails to cover the full loss, the reinstatement costs are unexpectedly shifted to the balance sheet. This disrupts capital planning and creates difficult investment trade-offs.
  • Increased business interruption (BI) risk: The extended reinstatement timelines result in organisations exceeding their BI indemnity period. The result: Your income protection runs out sooner.
  • Complex claims and disputes: Underinsurance complicates the claims process, leading to more complex and lengthy discussions with insurers. The proportional reduction applied by the insurer can often lead to disputes or legal challenges due to inadequate coverage levels.
  • Longer recovery times: A funding shortfall extends the project timeline, severely adding to BI risks and delaying the resumption of normal operations.
Case study: Underinsurance in a manufacturing plant
  • A fire broke out in the electrical room of a manufacturing site.
  • The building was insured for £1.7 million, but the actual rebuild cost was later assessed at £3.3 million.
  • The business had only insured just over half of what it would truly take to restore the property.
  • The damage from the fire was valued at around £216,000. But the site was underinsured, and the Average Clause reduced the insurer's payment to roughly £115,000.
  • The company was left to cover over £100,000 of the damage itself, resulting in financial pressures.

What is Business Interruption (BI) underinsurance?

BI underinsurance occurs when the sum insured for potential financial loss is insufficient to cover the actual loss of gross profit and increased working costs following an insured peril. It is a hidden gap in commercial portfolios, with the average policy covering only about 45% of the actual risk.

This is caused by two main factors:

  • Underestimated sum insured: The insured figure (gross profit or revenue) required to calculate the cover is frequently too low.
  • Insufficient indemnity period: The timeframe for receiving payments is often undersized. Standard 12 or 18-month periods are now insufficient for major claims, as complex planning and contractor scarcity could mean that physical rebuilding alone accounts for 24-36 months.

For larger portfolios, this risk is amplified by complex dependencies (e.g., the loss of one IT hub affecting multiple sites) and social value obligations (e.g., maintaining services at schools), which further extend the recovery timeline. For property owners and landlords, the amplified risk is often the prolonged loss of rental income across multiple units.

How does BI insurance work?

This type of insurance covers the loss of income a company suffers if its operations are halted or slowed due to physical damage (like fire or flood) from a covered peril. It replaces the lost net profit and covers ongoing fixed expenses (such as rent and payroll) during the 'period of restoration', aiming to return the business to its pre-loss financial position.

How to reduce insurance gaps in industrial plants and machinery

Industrial operations often face a different kind of mis-insurance challenge. Many insurers incorrectly classify industrial plants as buildings, resulting in misalignment in coverage, reinstatement timelines and policy wording.

Unlike buildings, machinery valuations tend to fluctuate quickly. Fixed plant, such as conveyor systems, switchgear, computer numerical control (CNC) machines, boilers, heating, ventilation and air conditioning (HVAC) systems, refrigeration equipment, racking and automated lines, often costs far more to replace than expected.

When machinery values are inaccurate, both property and BI coverage come under pressure during a claim. This creates a double gap: a reinstatement shortfall and a more extended period of downtime.

Here are ways you can mitigate these risks:

  • Use specialist engineering valuations based on modern equivalent replacement cost, rather than book value
  • Keep asset registers updated, and list buildings and plant separately in declarations
  • Review high-value or critical machinery every two to three years
  • Include delivery, installation and commissioning time when setting property and BI values

What is changing in property valuations?

Property valuation is shifting from a routine task to a governance priority. This means 'set and forget' valuations are risky. The shift is driven by:

The Building Cost Information Service (BCIS) All-in Tender Price Index (cost to client) recorded an annual growth of 2.5% in Q3 20253. Materials costs are stabilising, but persistent labour shortages and rising wages, especially for specialist trades, are inflating costs, making quick estimates unreliable. Even compliance with Energy Performance Certificate (EPC) regulations during a rebuild can introduce unforeseen expenses, thereby increasing the final reinstatement figure.

The insurance market is softening, creating an opportunity to correct values and increase sums insured (where underinsurance exists) without facing steep premium hikes common in previous complex cycles. This dynamic approach both strengthens balance sheet protection and improves cost control by eliminating wasteful spending on overinsurance.

Regulation is tightening, with the Financial Conduct Authority (FCA) and the Leasehold Reform Act 2024 driving greater transparency in building insurance costs and charges. Tenants, leaseholders and audit committees are now challenging poor or outdated valuations, demanding rigorous evidence and a clear methodology. Internal and external auditors are increasingly flagging valuation inaccuracies as governance failures.

Claims teams are reporting extended timelines due to delays in planning permissions, difficulty securing contractors and ongoing supply chain issues. This critically impacts BI indemnity periods. If the physical rebuilding takes longer than the standard 12- or 18-month indemnity period stated in your policy, your organisation's income protection will expire abruptly. This results in vulnerability to significant, unanticipated operational risk.

Limitations of 'rules of thumb' in property valuation

Relying on simple rules of thumb rather than professional reinstatement cost assessments (RCAs) is a critical vulnerability.

  • Inflation multiplier: Simple index-linking only adjusts a potentially flawed original value, compounding the inaccuracy over time.
  • Missing costs: These methods ignore mandatory inclusions like demolition, professional fees, inflation to mid-build and irrecoverable VAT.

What is the Average Clause?

This part of your policy states that the insurer must bear a proportion of any loss if assets are insured for less than their full replacement value. If the insurer finds the business has taken out inadequate insurance, it can reduce the settlement by the same percentage that the asset is underinsured.
Example:
  • Sum insured: £800,000
  • Actual rebuild cost: £1,000,000
  • Loss/damage: £200,000
  • Claim payment= (£800,000/£1,000,000) × £200,000= £160,000
So, the insurer pays £160,000, while the policyholder bears the shortfall of £40,000 due to underinsurance.

For industrial assets, the key error is using depreciated book value instead of full reinstatement cost for fixed plant and machinery. This creates a dual failure: it triggers the Average Clause on the property claim, resulting in long lead times that cause BI coverage to expire prematurely.

Key payout valuation terms explained

  • Declared Value: This is the estimated rebuild cost on the first day of the policy, including debris removal, fees and regulatory compliance. Whether VAT is included depends on the business's VAT recovery position. If VAT cannot be recovered on rebuild costs, it needs to be included in the Declared Value to ensure full cover.
  • Sum Insured: This is the estimated cost to entirely rebuild the property or asset, including labour, materials and debris removal. It reflects reconstruction cost, not market value, to ensure the policy can cover a complete rebuild after damage. A professional RICS valuation also confirms whether VAT applies, helping avoid undervaluation at the claim stage.
  • Index linking: This is an automatic adjustment applied to insurance policies to keep the Sum Insured in line with inflation and rising costs. It ensures rebuilding costs or asset values remain adequately covered over time, reducing underinsurance risk.

Who is most exposed to underinsurance?

The risk of mis-insurance (under or overinsurance) is highest for organisations managing large and varied property portfolios (volume and variance), where valuation accuracy is difficult to maintain across diverse assets. Organisations at risk include:

  • Public sector estates
  • Social housing providers
  • Universities and multi-academy trusts (educational estates)
  • Manufacturing, industrial and logistics operators (heavy plant, automated machinery, fixed equipment)
  • NHS and charitable estates (healthcare)
  • Real estate investment trusts (REITS) and investment portfolios
  • Logistics operators and manufacturing (industrial/warehousing)
  • Retail and leisure chains (corporate estates)

How to manage the valuation gap

Implementing a structured, portfolio-led approach will significantly help property managers by:

  • Prioritising high-impact sites first: Heritage structures, specialist construction, dense urban sites and industrial sites yield the biggest benefit from fresh valuation, safeguarding the largest areas of exposure.
  • Implementing a rolling valuation programme: To entirely nullify the Average Clause, valuations must be no older than three years, so a structured three-year rolling programme is essential. This approach avoids costly, one-off, large-scale revaluations and ensures optimised expenditure.
  • Aligning BI cover with realistic recovery time: For critical sites (like production facilities or utilities), a proactive review of BI indemnity periods is required. These need to align with realistic recovery timelines, which are often longer than standard policy periods due to planning and contractor delays in the current market.
  • Documenting methodology and assumptions: Ensure the basis for all Declared Values is clearly recorded and evidenced. This supports audit, board assurance and insurer negotiation, as well as satisfying growing regulatory transparency requirements.
  • Preventing unnecessary overinsurance: Ensure the sum insured reflects the actual replacement cost value (RCV), excluding non-insurable elements such as land value, to prevent excess premiums.
Quick checklist for asset managers
Are Declared Values based on up-to-date reinstatement assessments?
Do valuations include professional fees, demolition, access and inflation to mid-build?
Are Day One Uplifts aligned to current inflation expectations?
Are BI indemnity periods realistically covering major losses?
Have high-risk and specialist sites been prioritised for review?
Are sums insured separately declared for landlord's fixtures and fittings, plant and machinery (e.g., HVAC units, elevators)?
Have flood and subsidence exposures been formally reassessed based on the latest environmental data? Is appropriate peril coverage in place?

Your questions answered

Worried about getting your cover right?

To ensure your assets are appropriately covered and secured, Gallagher offers specialist-led valuations and reinstatement cost assessments for surrounding buildings, industrial plant and machinery. We use advanced technology and data analytics to accurately assess the rebuilding costs of properties.

Book your call today with one of our specialists to understand your market valuation risks and find the right solution for your portfolio.

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Sources

1 "BCIS Building Forecast," BCIS, 2 Oct 2025.

2 McDade, George. "Underinsurance Rife as Just 7% of Properties Covered Adequately," Insurance Times, 6 Oct 2025.

3 "BCIS Tender Price Index – Estimate of Tender Price Inflation," BCIS, 30 Sep 2025.

Disclaimer

The sole purpose of this article is to provide guidance on the issues covered. This article is not intended to give legal advice, and, accordingly, it should not be relied upon. It should not be regarded as a comprehensive statement of the law and/or market practice in this area. We make no claims as to the completeness or accuracy of the information contained herein or in the links which were live at the date of publication. You should not act upon (or should refrain from acting upon) information in this publication without first seeking specific legal and/or specialist advice. Arthur J. Gallagher Insurance Brokers Limited accepts no liability for any inaccuracy, omission or mistake in this publication, nor will we be responsible for any loss which may be suffered as a result of any person relying on the information contained herein.

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