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Insuring Leased Real Property…An E&O Time Bomb

Author: Bill Wilson

"Would a tenant's BP 00 03 07 13 with an endorsement for adding equipment breakdown coverage on a company specific form that pays for direct physical damage due to an 'accident' to 'covered property' apply when the lease with the landlord requires the tenant to pay for repairs and replacements to the HVAC system that is part of the building? I suspect it may not because the HVAC isn't specifically itemized as covered property, but it is property leased in the CCC of the tenant. This is similar to glass being the responsibility of the tenant, but glass of course is covered property in the BOP when required by the lease."


​The equipment breakdown endorsement you provided does not modify what is "covered property" under the BOP, just the peril(s) that apply to this type of equipment. But there is a bigger point to be made. To lease will specify what part of the property is the tenant's responsibility for damage. It could be the entire building or it could be one section of a multi-occupancy building plus plate glass, HVAC equipment for that unit, and other features. This is why a lease must be read very carefully to ascertain the tenant's responsibility for damage. This can be spelled out in the Damage and Destruction clause, the insurance requirements, or other provisions in the lease.
When a lease makes you responsible for damage to real property you lease (which is almost always), you need direct damage property coverage usually in the form of building coverage under a CP 00 10 or BOP. The fire damage legal liability coverage available in most CGL and BOP policies is not adequate for the vast, vast majority of leases today. No longer do leases make the tenant responsible only for fire damage. Many, if not most, make the tenant responsible for any damage beyond normal wear and tear whether the fault of the tenant or not. ISO has a CP 00 40 Legal Liability Coverage Form that can be used but, again, it only responds on a direct damage basis IF the tenant is legally liable for the damage...and liability created by the lease alone isn't sufficient because the form has a contractual liability exclusion.
Damage to leased real property can arise from the tenant's negligence but also from destruction by a tornado, vandalism, etc. Neither FDLL nor the CG 00 40 will help in these cases...only direct property coverage under a form such as the CP 00 10 or a BOP policy. Whether it’s the entire building, the space you occupy, plate glass windows, HVAC equipment, etc., it is a good idea to identify this property in the lease, determine its replacement cost, then insure it as Covered Property under the building coverage for the policy.
The VU contains many articles about this issue. For more information, go to the top of the web page and search the VU for “triple net.” You’ll find several articles that outline the problems and solutions. Six-figure uninsured property values under leases are common and this could be one. One of the VU volunteer faculty members is Jim Mahurin, CPCU, ARM who is a risk management consultant with extensive experience in identifying the lease exposure. He elaborates on his recent experience:
I'm seeing leases incorporating this language more and more. The Tenant may "build-out" the occupied space and be responsible for HVAC systems as they are responsible for all "build-out" exposures. The "build-out" is often installed under an "allowance" extended by the Landlord and all finishing is performed by the Landlord's contractor. But the Tenant has the duty to insure.
I saw a lease on a 125,000 square foot warehouse building where the Tenant was responsible for truck doors, about 7,000 square feet of nicely finished office space, and $350,000 in HVAC equipment, including equipment breakdown risk. I used to see a lot of situations where the Tenant was responsible for the owner's boiler. That meant adding the boiler as building and then adding B&M coverage.
A more insidious one is a provision in a lease holding the Tenant responsible for damage to the owner's HVAC system. In large retail space there are air return systems that tenants occasionally block and cause major damage to something. It's usually a motor that costs about $25,000. Then you get into the conversation about damage to leased space. The motor isn't in the leased area, but the block was.
I delivered my lease seminar in Florida several years ago. Three or four years later an agent called me with a question. After we worked through a response he told me that his office had looked at their own lease after they had attended my session. They were floored by how they were hung out occupying one floor in a three story building. He started asking customers for their leases. As far more insured's are occupying leased than owned space, that was a lot of leases.
He said that learning about lease issues had become a very important part of their sales strategy. They had recently picked up a restaurant chain account where they had addressed that issue and no other agent had ever mentioned the subject.
So, again, search the VU for "triple net" and you will find a number of articles that dig even deeper on this subject.
Last Updated: March 25, 2016​
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