Owning a home is super-exciting. Hard work, planning, and a lengthy search resulted in a place to call home. And when it’s all said and done, a new homeowner owns their corner of the world! It’s fantastic.. but… how to protect it? How much home insurance should I buy?
How much is enough?
The price we paid for the home? The price we think we can sell it for?
The answer is none of the above! Here’s why:
1. Rebuild not Re-buy
Your home insurance means the most when your home has been damaged in a storm, fire or accident. The more significant the damage, the more important insurance becomes. That said, the purpose of insurance is not to re-buy the home you own. It is to rebuild the home you own. Therefore, when considering your homeowner’s insurance, it is important to remember that the existing home you are purchasing is likely selling for less than a brand new home. Your home insurance should have limits that reflect the cost to build a brand new home in place of your current home.
The same is true if you are buying a brand new home. New homes are built in tracts. Builders share labor. Builders buy materials in bulk. Builders have an easier time constructing homes without mature homes on either side of the property. As a result, new-construction homeowners may need to purchase more coverage than their home’s construction cost.
Think this doesn’t matter? Check out what happened to homeowners in California when the wildfires ravaged their neighborhoods: click here
2. Coinsurance: The penalty for skimping on coverage
As previously discussed, the coverage needed to rebuild a home must consider the costs of reconstructions. So what happens if it doesn’t? That would only matter if the home collapses or burns to the ground… that’s rare! Unfortunately, under-insuring your home can affect a homeowner regardless of the size of the claim through a little-known rule called “Coinsurance”.
Coinsurance (or the Coinsurance Clause – as it is referred to in your homeowner’s policy) is a penalty insurance companies add to their policy to punish customers who under-pay for their insurance. The co-insured clause requires that the home be insured for at least 80% of its replacement. Failure to do so results in pro-rata “splitting” of all claims. Here’s how it works:
Let’s say a homeowner owns a home that would cost $500,000 to rebuild, but insure it for $350,000 (the amount they paid). The home is now insured at 70% of its replacement value. Shortly thereafter, the home is hit by a hail storm that causes $10,000 in roof damage. After the deductible (which we will assume is $1,000), the homeowner would likely expect a $9,000 check from the insurance carrier. Not so fast! Since the home was under-insured (less than 80% of the replacement cost), the homeowner would be responsible for the deductible PLUS their share of the claim. In this case that would be 25%. As a result, the homeowner ends up paying the $1,000 deductible AND $2,250 for under-insuring the home. In total, the homeowner is paying $3,250 – more than three times their deductible!
Here’s the kicker: the added claims expense alone would likely have paid for many years of the additional coverage needed to properly insure the home!
3. Breach of Contract & Forced Placed Insurance
Most homeowners purchase their home with a loan. Financial institutions feel comfortable lending to homeowners because a) they have a contract and 2) they have collateral in the home. If you fail to pay them back, they can enforce the contract, make you pay and/or take the home back. However, that is not their only leverage.
Every mortgage contract requires the homebuyer to purchase insurance. In the event that the insurance is insufficient, the homebuyer has breached the contract. If the lender finds out the insurance is insufficient, they have the ability to “force place” insurance. This means the lender can get insurance and send the homeowner the bill. Without fail, the forced-placed insurance is far more expensive than the insurance a homeowner would purchase themselves. Regardless of the cost, the homeowner will be required to pay the exorbitant premium.
Insurance carriers all have different methods for calculating a home’s replacement value. A thorough and diligent agent will provide you with a Replacement Cost Estimator (RCE) report. The RCE report will include the characteristics of your home and provide the replacement estimate Features like the number of bathrooms, the number of kitchens, type and distribution of flooring, total square footage and style of finishings should all be reviewed for accuracy. Once this is done, you can feel confident you have properly protected your new home!
At Sidebar Insurance Solutions, we strive to provide you with the information and insight to feel confident your home is properly insured. Call us today to make sure you have the right coverages.