If a building is damaged or destroyed by fire, the insured will seek coverage by the buildings and fire insurer. It is crucial to determine whether the current market value prior to the fire (time value) or the replacement value is covered, and it must be taken into account whether the repair costs exceed the time value.
In a pivotal decision (IV ZR 84/05) of the Federal Court of Germany on 24 January 2007, the Court ruled that the insured is not entitled to the replacement value peak if the building was not restored. 14 years on, this decision still provides guidance in similar cases.
The plaintiff initially claimed coverage from insurers of damages caused by a fire in a warehouse. The insurers had already compensated the time value. The insured did not intend to restore the building but nevertheless claimed for compensation of the replacement value.
The insurance contract was subject to the general conditions for fire insurance (AFB 87).
The first instance court dismissed the action and the Federal Court rejected the appeal.
The Federal Court held that section 11 of AFB 87 initially bases the calculation of the compensation to be paid on the insured value of buildings consisting of the value of the new building including architects', construction and planning costs. By insuring the replacement value, the insured must construct a new building in place of the fire-damaged one even if its current market value prior to the fire was below the replacement value. In the case of an entire destruction, the insured value is the value immediately before the fire. In the event of damage, the necessary repair costs are reimbursed, but at most up to the limit of the replacement value.
However, section 11 of AFB 87 prescribes a reduction of the repair costs if, as a result of the repair, the replacement value becomes higher than before. It should be considered that the value of the building increases, therefore, a replacement value peak must be assessed. In other words, the replacement value has to be related to the time value. The time value results from the new value of the building less the degree of wear and tear. This is the actual financial loss suffered by the insured as a result of the insured event.
In the present case, the plaintiff claimed for compensation of the replacement value exceeding the time value although the building was not repaired. Therefore, the Federal Court rejected the appeal as the insurer had already compensated the time value before the legal proceedings.
The decision clarifies that insurers must compensate the time value of the building, which is the current market value prior to the fire. It also clarifies that the time value has to be compensated irrespective of whether the building was repaired or not.
Furthermore, the judgment states that an amount exceeding the time value is to be compensated by insurers only if the insured arranged for the repair of the building. However, the compensation is limited to the replacement value. The purpose of this is to prevent insureds from committing arson if they are seeking compensation of the full replacement value, even if the time value of the building was lower. It does not matter whether the building was partly or entirely destroyed. However, the judgement clarifies that the repair costs to be reimbursed by insurers are reduced by the amount by which the time value prior to the fire would be increased as a result of the repair compared with the current value before the insured event. In other words, compensation of repair costs exceeding the time value is only to be made by insurers if the building was actually repaired and if the building and its value was restored. If this is not the case, compensation for repair costs can only be considered up to the time value prior to the insured incident. However, insurers are entitled to reduce the compensation by the notional amount the repair would have increased the time value.