Appraisal and State Farm

Appraisal Clause — property insurance provision allowing either the insurer or the insured to demand a binding appraisal of damaged property in the event of a dispute as to its value and establishing the required appraisal procedure. A few jurisdictions now allow either party to reject the demand for appraisal, as evidenced in state amendatory endorsements for commercial property policies, homeowners policies, or both. Allowing the insurer to reject an insured’s demand for appraisal is disadvantageous for insureds.

 

It is well known that appraisal clauses have existed in almost every property policy issued in the US and requires disputes about the amount of loss to be adjugated and resolved in appraisal. There are many benefits to appraisal in comparison to litigation however, that is dependent on the interpretation of the policyholders and the insurers read on the specific appraisal language in the policy. 

A typical appraisal clause in a property policy reads as follows: 

If we and you do not agree on the amount of loss, either party may make a written demand for an appraisal of the loss. Then the two parties (policyholder and insurer) each pick and PAY a competent impartial appraiser. (Side bar- if you are working with a public adjuster currently this person cannot represent you in appraisal and you must select an impartial party). The insurer and the policyholder have each selected their appraiser then the two appraisers’ select an umpire. Each submits their statements, supports etc to the umpire. Any agreement reached between the either appraiser is binding. The two parties share on the cost related to the umpire and related expense. A key feature of appraisal is that it is limited to determining only the amount of the loss. What that means is if there are any dispute as to causation or applicability of exclusions of coverage those being coverage issues need to be disputed in a different forum. That said you can still seek appraisal to determine the amount of the loss and then in another forum argue the coverage in court. Generally speaking, this process is faster, less expensive and yields and informed agreed result amongst the parties. 

While the appraisal process can be a more informal process with speedier results, the scope of review of the courts on an appraisal award is extremely limited. Most courts will not review the award for errors of fact or law. Courts review for fraud, denial of hearing or similar misconduct. For all practical purposes the award of the appraiser is binding and will determine the amount of loss. Making the selection of your appraiser very important. Its imperative that the appraiser the policyholder selects is qualified and respected in the industry and well versed in the subject matter. Consequently, this also makes the selection of the umpire or paramount importance as this person could end up being the decision maker should the appraisers not come to an agreement. 

There is some uniformity amongst appraisal clauses contained in various carriers’ policy language. However, there is no such nuance as the appraisal clause. To demonstrate the differing language, we will compare the Standard fire Policy, State farm Insurance Homeowners policy, ISO standard HO3 and the appraisal provision in the NFIP dwelling form. The differences are highlighted in the table below. Table 1 portrays working with respect to (1) whether appraisers and umpires have to competent, disinterested, or impartial (2) the nature of the assignment – that is to determine the actual cash value (ACV), amount of loss, or replacement cost (3) whether the final agreement must be in writing (4) whether the appraisal has to be itemized; and (5) whether the clause contains any time limits for performance. 

 

TABLE 1. COMPARISON OF SELECTED CONTENTS IN APPRAISAL CLAUSES

Provision	165-Line Policy	State Farm	ISO	NFIP
Adjuster must be
Competent	Yes	Yes	Yes	Yes
Disinterested	Yes	Yes	No	No
Impartial	No	No	Yes	Yes
Umpire must be
Competent	Yes1	Yes	No	No
Disinterested	Yes	No	No	No
Impartial	Yes	Yes	No	No
Assignment
Set ACV	Yes	No	No	Yes
Amount of loss	Yes	Yes	No	Yes
Replacement cost	No	No	No	Yes
Itemization	Yes	No	No	Yes
Time limits	No	Yes2	No	Yes
Written agreement	Yes	Yes	No	Yes3

 

The 165-line fire policy, lines 123–140:

In case the insured and this Company shall fail to agree as to the actual cash value of the loss, then, on the written demand of either, each shall select a competent and disinterested appraiser and notify the other of the appraiser selected within twenty days of such demand. The appraisers shall first select a competent and disinterested umpire; and failing for fifteen days to agree upon such umpire, then, on the request of the insured or this Company, such umpire shall be selected by a judge of a court of record in the state in which the property covered is located. The appraisers shall then appraise the loss, stating separately actual cash value and loss to each item; and failing to agree, shall submit their differences, only, to the umpire. An award in writing, so itemized, of any two when filed with this company shall determine the amount of actual cash value and loss. Each appraiser shall be paid by the party selecting him and the expenses of appraisal and umpire shall be paid by the parties equally.

State Farm’s appraisal clause:

4. Appraisal. If you and we fail to agree on the amount of loss, either one can demand that the amount of the loss be set by appraisal. If either makes a written demand for appraisal, each shall select a competent, disinterested appraiser. Each shall notify the other of the appraiser’s identity within 20 days of receipt of the written demand. The two appraisers shall then select a competent, impartial umpire. If the two appraisers are unable to agree upon an umpire within 15 days, you or we can ask a judge of a court of record in the state where the residence premises is located to select an umpire. The appraisers shall then set the amount of the loss. If the appraisers submit a written report of an agreement to us, the amount agreed upon shall set the amount of the loss. If the appraisers fail to agree within a reasonable time, they shall submit their differences to the umpire. Written agreement signed by any two of these three shall set the amount of the loss. Each appraiser shall be paid by the party selecting that appraiser. Other expenses of the appraisal and the expenses of the umpire shall be paid equally by you and us.

The ISO form:

If you and we fail to agree on the amount of loss, either may demand an appraisal of the loss. In this event, each party will choose a competent and impartial appraiser within 20 days after receiving a written request from the other. The two appraisers will choose an umpire. If they cannot agree upon an umpire within 15 days, you or we may request that the choice be made by a judge of a court of record in the state where the “residence premises” is located. The appraisers will separately set the amount of loss. If the appraisers submit a written report of an agreement to us, the amount agreed upon will be the amount of loss. If they fail to agree, they will submit their differences to the umpire. A decision agreed to by any two will set the amount of loss.

Each party will:

1. Pay its own appraiser; and
2. Bear the other expenses of the appraisal and umpire equally.

The NFIP dwelling policy:

If you and we fail to agree on the actual cash value or, if applicable, replacement cost of your damaged property to settle upon the amount of loss, then either may demand an appraisal of the loss. In this event, you and we will each choose a competent and impartial appraiser within 20 days after receiving a written request from the other. The two appraisers will choose an umpire. If they cannot agree upon an umpire within 15 days, you or we may request that the choice be made by a judge of a court of record in the State where the covered property is located. The appraisers will separately state the actual cash value, the replacement cost, and the amount of loss to each item. If the appraisers submit a written report of an agreement to us, the amount agreed upon will be the amount of loss. If they fail to agree, they will submit their differences to the umpire. A decision agreed to by any two will set the amount of actual cash value and loss, or if it applies, the replacement cost and loss.

ACV is defined in the policy as “The cost to replace an insured item of property at the time of loss, less the value of physical depreciation.”

Observations about the Policies

Certain key words are either omitted or undefined in these examples. For example, all require appraisers to appraise “loss.” However, there is no stipulation that the appraisers address covered losses only. In the real world, however, loss may entail a combination of covered and noncovered perils, and even novices learn that the popular notion of “full coverage” is myth. A reasonable inference is that the appraisers’ assignment is to arrive at a number, an estimate, whether covered or not.

Thus, surprisingly, for an industry whose reason to be  is to deal with loss, the word loss doesn’t even get a tagline. In fact, when the term appears in insurance publications, it is often as an adjective, such as loss ratio, loss reserve, loss prevention, and similar expressions. One industry dictionary definition is “reduction in value,” and a leading property-casualty insurance company’s training materials cite “Any diminution of quality, quantity, or value of property” as the meaning. Among the definitions in Webster’s, I note a view that it consists of “the damage, trouble, disadvantage, deprivation caused by losing something; any reduction, lessening.” Black’s cites “A decrease in value” followed by a laundry list of types of loss, thereby indicating that the meaning of “loss” is not self-evident.

Further, as will be discussed in a subsequent commentary, court interpretations show divisions as to how far appraisers may go in addressing coverage questions regarding loss. Disagreements often occur over whether “amount of loss” determinations are coverage or decisions or not.

Most homeowners’ policies provide replacement cost in some form or another; however, among the policies analyzed, only the flood policy directs appraisers to estimate replacement costs.

Some guidance can be inferred from the usual requirement that property damage arise from “direct physical injury to, destruction of or loss of use of tangible property” and variations thereof and the agreement to cover liability for bodily injury and property damages. Arguably, however, the concept of loss is much broader than these more limiting insuring agreements.

Itemization

Itemization of the loss, however determined, is not required by some policies but is a requirement in others. For the former, it appears that a simple one-page transmission will satisfy the contract, but the latter can be quite detailed. From a cost perspective, certainly the more detailed the requirement, the greater the cost. In fact, the cost apportioning of appraisal probably reduces the number of appraisal demands by policyholders.

According to the Insurance Information Institute Insurance Fact Book 2014, the average property damage claim is under $10,000. Therefore, when a policyholder with an $8,100 claim does a cost-benefit analysis factoring in the possibility of failure, invoking the appraisal clause is hardly worth it.

Time Limitation

Only State Farm includes a time limit on the process, and even it is limited to the work of the two appraisers. Once it reaches the umpire, no time limits apply. A reasonable inference is that appraisal can be a lengthy process. I also find it interesting that the ISO form does not require a written report, even though, in my experience, the written report is usually provided. However, a strict constructionist could be difficult to persuade on that point. Although not shown in the table, only the 165-line fire policy stipulates the party to which the final report is to be delivered; it is to be “filed with this company.” While this may be the practice among most companies, obviously there is no language directly on point for many policyholders.

In addition to this critique of the appraisal clauses, terms such as competent, disinterested, impartial, and amount of loss are also subject to differing interpretations. Adding to this diversity of views are several court decisions affecting the implementation and application of the various appraisal clauses. 

 

In 2016 , State Farm changed the language in its appraisal provision on homeowners policies. The new wording makes the appraisal process very taxing for policyholders. Many policyholder advocates have offered that they interpret that the language in the new appraisal clause in the State Farm policy is in direct violation of the Standard Fire Policy. A recent decision in a Michigan federal court finally affirmed their assertion. 

Hart v. State Farm Fire & Casualty Company – policyholder had a fire loss and State Farm accepted liability and extended coverage. State Farm however, disagreed with the amount and scope of the loss. The policyholder in this case demanded appraisal but State Farm declined to participate taking the position that the policyholder was attempting to use appraisal to argue coverage. Stating that the difference in the scope of damage is solely a coverage issue and not a dispute as to the amount of loss. State Farms form HW-2122 (appraisal provision) requires a policyholder to provide written, itemized documentation of the specific items that the policyholder was in dispute of, as it relates to the State Farm estimate and was another reason why in this case they denied the appraisal. 

The policyholder then filed suit. The lawsuit sites that the form Hw-2122 should be void as it is contrary to the Standard Fire Policy (discussed earlier in this text). Policyholders counsel moved for summary judgment on this argument. District court affirmed that 9 of the 10 appraisal provisions in State Farms form hw-2122 violated the Standard Fire Policy. The court also set forth the opinion that the State Farm provisions made the appraisal process far more burdensome than legislature intended and was therefore against public policy and void. The district court also concluded that an appraisal was warranted despite State Farms argument that a difference in the scope of damage is a coverage issue and not a dispute amount the “amount of loss” issue. The district court reasoned that once an insurer admits that a loss is covered under its policy a court is statutorily mandated to order the parties to participate in Michigan’s statutory appraisal process as the parties do not dispute liability and only are at odds about the “amount of the loss”. Because the comparison of the Standard Fire and that of State Farms form yielded the State Farm form-imposed conditions, demands and requirements not set forth in Michigan’s Standard fire the court deemed them void and contrary to MCL and therefore void as against public policy. The court deemed the appraisal warranted and ordered the parties to appraise the amount of the fire and smoke loss. 

 

The Hart decision is relevant to Illinois Policyholders for two reasons. 

First, like Michigan, Illinois is a Standard Fire Policy state.4 Under the powers vested by sections 397 and 401 of the Insurance Code, the Director of Insurance has promulgated certain regulations that provide a Standard Fire Policy.5 Under the regulations, all fire insurance policies must “conform to such form of the Standard [Fire] Policy or, if another form is used, shall for the purpose of concurrence of contract be deemed to be the Standard [Fire] Policy.”6 In essence, the standard form of fire insurance guarantees a minimum level of coverage that supersedes any attempt to limit or to restrict coverage to less than the statutory minimum. Stated differently, fire insurance policies may not provide coverage less than that set forth in the standard form. Hence, to the extent an insurance policy provision omits or detracts from the minimum protections afforded by the standard form, the provisions of the standard form control and the non-compliant policy is enforceable as if it conformed to the requirements or the prohibitions of the standard form.7 As the Hart decision establishes, as related to an appraisal of a fire loss, an appraisal provision that imposes conditions, requirements, and demands not set forth in the Illinois Standard Fire Policy’s appraisal provision are unenforceable.8

Second, like Michigan courts, federal district courts in Illinois have unanimously concluded that disputes as to (a) causation (whether a covered peril caused the damage); (b) the scope of damage (the extent or scope of the physical damage from the covered peril); (c) the scope of repairing or replacing the damage; (d) the cost of repairing or replacing the damage; (e) matching; and (f) whether the damage is extensive enough to require employing a general contractor are disputes as to the amount of loss, not coverage, and thus appropriate for appraisal.9