Is Your Home Underinsured? When is the Last Time You Checked?

A home is the largest investment most people make in their lifetime, yet about two out of every three homes in America are underinsured. The average underinsurance amount is about 22%, though some homes are underinsured by 60% or more. This means millions of American homeowners are at risk of major financial loss should a disaster ever affect their home. Homeowners in these unfortunate situations find themselves responsible for tens of thousands of dollars of unexpected out-of-pocket costs to rebuild their house. Many of these homeowners are financially unable to rebuild a house like the one they had prior to their loss.

Homeowners Insurance (also known as Hazard Insurance) isn't a luxury; it's a necessity to protect homeowners from devastating financial loss following damage to their home and/or possessions. Virtually all mortgage companies require borrowers to have insurance coverage for the full or fair value of a property and won't make a loan or finance a residential real estate transaction without proof of it. What often happens is new homeowners rush to buy insurance during escrow without much knowledge of coverage to secure their loan requirement. Only after they experience an actual loss do they find out they are not covered, or not sufficiently covered.

Studies made following California wildfire losses revealed that between one half to two thirds of homeowners are underinsured. And of homeowners not affected by natural disasters, nearly 40% had who have significantly remodeled their home have not updated their homeowners insurance or weren't sure if they had done so, leaving them grossly underinsured in many cases.

There are essentially three levels of coverage:

Actual cash value

Actual cash value covers the cost of the house plus the value of your belongings after deducting depreciation (i.e., how much the items are currently worth, not how much you paid for them).

Replacement cost

Replacement value policies cover the actual cash value of your home and possessions without the deduction for depreciation, so you would be able to repair or rebuild your home up to the original value.

Guaranteed (or extended) replacement cost/value

The most comprehensive, this inflation-buffer policy pays for whatever it costs to repair or rebuild your home—even if it's more than your policy limit. Certain insurers offer an extended replacement, meaning it offers more coverage than you purchased, but there is a ceiling; typically, it is 20% to 25% higher than the limit.

Some advisors feel all homeowners should buy guaranteed replacement value policies because you don't need just enough insurance to cover the value of your home, you need enough insurance to rebuild your home, preferably at current prices with like materials (which probably will have risen since you purchased or built). Often shoppers make the mistake of insuring just enough to cover the mortgage, but that usually equates to around 90% of your home's value. Due to a fluctuating market, it's always a good idea to consider getting coverage for more than your home is worth. Guaranteed replacement value policies will absorb the increased replacement costs and provide the homeowner with a cushion if construction prices increase.

Bottom line? Call your insurance agent and ask to review your coverage. Insurance is VERY important when you need it. Don't skimp. It costs nothing to have your policy reviewed on an annual basis. If your insurance provider can't do this for you, find another insurance company. Hopefully you will never need it, but if so, your home and your possessions will cost more to replace than you expect, and adequate protection will likely cost less than you think.

Tamara Z (Zyhylij), GRI, CNE, SRES, GRN, REALTOR®