Two terms that often confuse risk teams are “loss payee” and “additional insured.” While both can collect benefits from an insurance policy, they have different uses. In the real estate industry, too many landlords and property managers ask for loss payee status on a tenant’s general liability insurance policy when that does not best serve their financial interests. In this article, we explain how loss payee and additional insured endorsements differ and who they should cover.
What Is a Loss Payee?
Loss payee is the party entitled to all or some of the proceeds that an insurance provider pays out in the event of a loss, even when the loss payee is not the policyholder. In real estate, a loss payee is designated in a lessee’s insurance policy as part of the Loss Payable Clause. Loss payee status does not guarantee payment if a claim is denied. However, when a claim does pay out, loss payees receive money first “as its interest may appear.” This means insurance companies will only pay an amount equal to the loss payee’s actual financial loss sustained. For example, if fire damage to a building was $100,000 and the loss payee owned 50% of the building, it would only receive the portion of the funds equating to its direct financial loss.
Who Does a Loss Payee Protect?
To be listed as a loss payee, an entity must have an insured or financial interest in a property, such as a mortgage. Property investors or banks typically request they be included as loss payees. Property owners with renters benefit from loss payee status as well. Parties asking to be named loss payees also are common with equipment and car lease agreements.
What Is the Difference Between Loss Payee and Additional Insured?
Additional insured is an entity added to a named insured’s policy that benefits from an extension of the policyholder’s liability coverage. Additional insured endorsements protect affiliated parties from the named insured’s conduct by providing them with the same insurance coverage funded through the policyholder’s premiums.
Let’s compare the two. A loss payee is entitled to all or a portion of the check an insurance company issues from a claim filed by the named insured. Additional insureds do not receive a portion of that check. Rather, they have the option to file a claim directly against the named insured’s policy. Therefore, additional insureds gain more coverage against claims, but no rights in receiving money from the named insured’s policy when the loss lacks a direct connection to the relationship. Landlords and property managers often require tenants add them as additional insureds.
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How Do You Apply Loss Payee to Insurance?
Adding a loss payee to a named insured’s policy is necessary when collateral has been used to secure a loan, the loan is not fully paid, or there is an insurable interest and financial stake in the property. The loss payee is the rightful recipient of an insurance reimbursement because it has the greatest financial interest in the property.
Let’s say that Ready Real Estate financed their multi-tenant mall through Billionaire Bank on a 15-year loan. The loan contract requires Ready Real Estate list Billionaire Bank as the loss payee on its insurance policy. When a fire occurs, the insurance company notifies Billionaire Bank as the loss payee and issues the bank a check for the loss. Billionaire Bank then can endorse the payment to Ready Real Estate to complete the repairs.
Additional insured status is ideal when working with a third party increases liability exposure. The additional insured endorsement reduces that liability by keeping the risk closest to the party most likely to create it – the named insured.
Going back to Ready Real Estate, they lease space in their mall to Real Good Restaurant. The lease agreement requires the tenant list Ready Real Estate as an additional insured. The restaurant causes a fire that creates significant damage to the property. Ready Real Estate files a claim against the restaurant’s insurance policy as an additional insured and receives protection against litigation from the patrons injured in the fire.
Who Is a Loss Payee? The Special Case for Property Owners
For landlords, there are two scenarios to consider regarding tenant insurance. What is covered under the tenant insurance policy dictates if loss payee status is required:
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Scenario #1: Tenant is only insuring their own business personal property
In this scenario, the landlord should require an additional insured endorsement on the general liability policy. Because the landlord has no financial interest in the tenant’s personal property, there is no need for loss payee status.
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Scenario #2: Tenant is insuring the property or structure
Here the landlord has a financial interest in the property as its owner. The tenant’s general liability insurance policy should include an additional insured endorsement for the landlord as well as citing them on the declarations page as a loss payee. This gives the tenant’s policy priority in paying for claims in which the tenant is at least partially responsible. It also ensures the landlord receives compensation should the tenant cause a loss because the property owner stands to lose their investment.
What Is the Difference Between Loss Payee and Lienholder?
Who gets designated as a lienholder or a loss payee depends on the financial relationship with the named insured. A lienholder is a person or organization with a financial interest in a property up to the amount borrowed or owed. Banks, finance companies, and credit unions usually are lienholders. The loss payee is the entity with a legally secured insurable interest in the property. This could be the same financial institution designated as the lienholder, but also could be a loan co-signer or someone who issued a personal loan. Often a party is both the lienholder and the loss payee.
Let’s apply another scenario. Billionaire Bank provided the loan for Ready Real Estate to build its mall. The 15-year loan financed 90% of the mall’s construction costs. Because the bank and real estate company both own a portion, they each have an insurable interest in the building. Ready Real Estate leases space to Real Good Restaurant in the mall’s third year of business. A kitchen fire in Real Good Restaurant causes damage to the northwest corner of the property. Real Good Restaurant’s policy pays for the damages. A check goes to Billionaire Bank as both a lienholder and loss payee on the property for the damages as it applies to the outstanding portion of the loan. A check also goes to Ready Real Estate as a loss payee for their partial ownership of the building. If Ready Real Estate required the restaurant to add it as an additional insured, it also can file a claim and would receive litigation protection under the restaurant’s policy directly.
What Is a Lenders Loss Payee?
All insurance policies come with a series of standard clauses. Insurers add loss payees to commercial property policies using a standard endorsement called Loss Payable Provisions. The endorsement includes four clauses representing each type of loss payee. Two are most common: the Loss Payable Clause and the Lender’s Loss Payable Clause.
The Loss Payable Clause provides the loss payee with the same coverage as the named insured. A Lender’s Loss Payable Clause grants more protections to the loss payee. The main difference is that a lender’s loss payable provision allows the loss payee to recover losses even when the acts of the named insured invalidate coverage under the policy. Should a named insured default on a loan, violate the terms of their insurance policy, or cancel their coverage, the lender still receives protection thanks to the lender’s loss payable endorsement.
The Lender’s Loss Payable Clause provides three important protections. First, the endorsement ensures the loss payee can receive financial reimbursement for a loss even if the entity has initiated foreclosure proceedings on a covered property. Second, the clause retains coverage for a loss payee even if a named insured commits an act that invalidates the insurance policy. For example, if authorities found that Real Good Restaurant committed arson, which would not be covered under the insurance policy, Billionaire Bank and Ready Real Estate would still be protected. Third, loss payees would receive advance notice if the insurance company intends to cancel coverage for the policyholder.
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