If you’re just stopping by for the first time, this is a class in a series of classes over the next few months which will culminate in the development of a complete financial plan. Stop by the orientation class HERE first for class orientation/overviews and HERE for more information about the website.
Class Objectives: To understand the basics of homeowner’s insurance including property and liability coverage, deductibles and how to make claims.
Handout: Current Homeowner’s Coverage
Assignment: Insurance information for quotes in Excel| Google Docs (previews in lecture material)
As discussed in the previous class on Auto Insurance Basics, people purchase insurance to shift the risk of the possibility of future financial loss from themselves to an entity (an insurance company). In return for amounts paid as premiums, one can have peace of mind that a significant incident of some sort will not cause you to lose a significant investment of cash or assets.
Basically, in return for a relatively small payment of money (premiums), the insurance company is agreeing to be willing to pay a significant amount in the future if certain incidents arise, and up to certain specified limits.
Homeowner’s insurance is a type of insurance that covers your home and its contents in the event that it sustains varying types of damage covered under your policy as well as liability for certain events that may occur related to your household.
I’ve been fortunate that I’ve never had to submit a homeowner’s insurance claim in my 10 years of home ownership. However, I do not feel that the premiums have been a waste of money because of the peace of mind I have that such a huge investment is being protected through having insurance that will cover any potential loss. I will happily pay for homeowner’s insurance if I never once use it for as long as I own a home.
WHAT DOES THIS INSURANCE COVER?
There are three categories of things that homeowner’s insurance covers including property coverage, liability coverage and other coverage. It’s also important to note some things that it does not cover.
- Dwelling coverage (Coverage A): This coverage pays for repairs or to rebuild your home (including permanent fixtures such as flooring, roofing, cabinets, etc.) if this damage is due to certain specified perils covered by your insurance. Your policy will be either “broad coverage” or “all perils”. Broad coverage includes specific named perils that the insurance will cover. All perils includes all types except those specifically included in the policy. These perils generally include:
- Fire and/or smoke
- Explosions or civil unrest
- Theft or vandalism
- Trees and other falling objects
- Ice, snow, sleet, freezing rain, hail or lightning
- Appliance-caused rupture (plumbing, air-conditioning, heating)
- Other structures coverage (Coverage B): This coverage pays for damage to detached structures such as garages, sheds, fences and docks.
- Personal property coverage (Coverage C): This coverage pays for damage to personal belongings in your home due to damage caused by the specified perils. These items include artwork, clothing, consumer goods, furniture, etc.
- Liability insurance (Coverage E): This coverage protects you in the event of a lawsuit related to someone obtaining bodily injury or property damage while on your property. This coverage will pay for medical bills, pain and suffering, lost wages, death benefits and your legal costs to defend yourself.
- Loss of use coverage (Coverage D): This coverage pays for additional housing if your home is not livable during the repairs covered under your policy.
- Medical payment coverage (Coverage F): This coverage will pay for medical expenses for anyone accidentally hurt while on your property
- Additional home coverages
- Flood damage: This is a separate type of insurance that is mandatory to purchase if your home is designated as being in a flood zone based on maps by FEMA. Not covered also are sewer backups.
- Earthquake damage: This is also a separate type of insurance that can be purchased if you are located somewhere that an earthquake is likely to occur.
- Acts of war
- Damage from pests (such as mice, insects, pets)
- Pollution damage
- Normal wear and tear
- Intentional acts (excluded for both property damage and liability)
HOW MUCH OF THIS INSURANCE DO I NEED?
Homeowner’s insurance is required by your lender if you have a mortgage on your home. They will require at a minimum the amount of your loan, but you will definitely want to obtain homeowner’s insurance dwelling coverage for at least the amount that it would cost to replace your home if it was a total complete loss from something such as a fire.
The typical amount of coverage for property damage are as follows.
- Dwelling coverage: This amount is listed as either replacement cost or actual cash value. Replacement cost is how much it would be to rebuild/replace the property if it was entirely destroyed. Actual cash value would be the market value of the home if it were to be sold on the market, which may be lower.
- Other structures coverage: This is usually around 10% of your dwelling coverage, but can be increased if needed.
- Personal property: This is usually around 50% of your dwelling coverage, but can be increased or adjusted if needed. There is a limit on individual items such as jewelry, so if you have such items you should get them appraised and insured separately.
- Loss of use: This is usually around 20% of your dwelling coverage. It will cover rent at a similar price point to the coverage on your personal home.
The typical amount of coverage for personal liability coverage starts with a minimum of $100,000 and can be increased to $500,000. If your assets are more than $500,000 you should consider getting a personal liability umbrella policy to make sure you will be adequately covered. If you’ve completed your net worth statement, you know how much additional coverage you may need.
WHAT IS THE DEDUCTIBLE?
The deductible is the amount you will be responsible for paying personally on each claim submitted. The deductible for homeowner’s insurance is treated a little differently than auto insurance, though.
There are 3 different types of homeowner policy deductibles:
- Dollar-value deductible: The deductible is a set amount for all perils covered under your policy payable each time you make a claim.
- Percentage-based deductible: The deductible is based on a percentage of the dwelling coverage of your home. This is more common on earthquake and hurricane policies.
- Split deductible: There is a different deductible for specified perils (such as hurricane damage or hail).
If you have a mortgage on your property, the lender will oversee the process and the insurance company will most likely pay the check directly to the person making the repairs and you will be responsible for paying your deductible portion. If you don’t have a mortgage on your property, the insurance company may make a check out directly to you for the amount they’ve determined are needed for repairs minus your deductible. You can then choose to repair the property yourself or hire someone and save the extra.
Common deductibles for homeowner’s insurance policies are $250, $500, $1,000, $2,500 or even more for high value homes. You should select the highest deductible you can comfortably pay out of emergency savings, but not so high that it would be a significant hardship if you were to incur a loss.
HOW MUCH DOES IT COST?
The cost of your homeowner’s insurance depends on:
- The amount your home is insured for (replacement cost or actual cash value)
- The deductible amounts you’ve selected
- How many previous claims you’ve filed recently
- Whether you have other insurance policies with that company (such as auto)
- Whether you qualify for discounts through professional memberships or other groups
- The age of your home, building materials and property features
- Additional features and structures such as swimming pools
- Presence of safety features such as alarm systems and gated entrances
- The location of your home (safety of your neighborhood, distance to fire station, etc.)
- Pets (different pets may increase your premium by different amounts)
- Your credit score
- Discounts you may qualify for (alumni associations, credit unions, professional organizations, etc.)
- Your location (even within your state)
Policies are generally written for 12 months.
WHERE DO I OBTAIN COVERAGE?
Auto insurance can be obtained from a variety of different companies. If you’re not purchasing auto insurance from a major company, be sure to check their financial strength rating.
- Direct sellers such as Progressive and Esurance
- Large national insurance companies such as Allstate, State Farm, USAA (veterans and military), Farmers, Liberty Mutual, AAA, Nationwide, etc.
- Independent insurance agents that offer insurance policies from multiple companies
Obtaining a 12-month or annual policy does not mean that you have signed a contract with that company for that amount of time. You should compare quotes every year when you are up for renewal Rates change all the time and you can find a significant change between companies even in a short amount of time. I definitely suggest using an independent insurance agent that has good reviews from friends and/or family.
Here is a preview of the spreadsheet you can use to compile all your personal and home information in order to obtain updated insurance quotes (this is the homework assignment). They will also ask you for your social security number to receive your credit score, but you want to provide this separately. If you’re not sure which exact coverage amounts you need, don’t hesitate to discuss it with the agent.
HOW DO I MAKE A CLAIM?
The steps to make a claim to your homeowner’s insurance company include:
- Contact the police immediately if the loss is due to theft or criminal activity.
- Contact the insurance company and provide details about the claim.
- Take precautionary measures to ensure that the home doesn’t receive further damage, for instance in the case of a plumbing problem or leak.
- Review your insurance policy yourself to research the coverage provided based on the incident.
- Take pictures of the damage and keep all evidence to support your claim.
- Meet with an insurance adjuster and fill out all necessary paperwork.
- Consider getting independent estimates to make sure that the amount the insurance company is going to provide will be accurate to cover the damage.
- Keep all receipts for repairs and temporary living accommodations and documentation to support the claim. Follow up as necessary.
You should definitely note here that with each claim you submit to your homeowner’s insurance company will cost you in the long run through increased future premiums. The best option is to use insurance as what it’s for – to pay for significant expenses that you wouldn’t be able to cover personally and not as an emergency account to cover things for you. You will be infinitely better in the long run if you save money by increasing the deductible to a reasonable amount and put the money you’d save in an emergency savings account to cover future repairs.
The key points you should take away from this class include:
- The purpose of homeowner’s insurance is to limit the amount you may have to pay in the event of a major incident (including damage to your property and a liability that occurred on the property).
- Your property damage coverage should be sufficient to cover the value of your home, additional structures and all of your personal property inside the dwelling.
- Your liability coverage should be sufficient to cover your assets in the case of an expensive lawsuit.
- Your deductible should be a manageable amount that you can pay out of your emergency fund.
- Do sufficient research to determine the best policy for you from a variety of different insurance companies.
EXAMPLE: THE SMITH FAMILY
The Smith family takes a look at their current homeowner’s insurance coverage and find that their current homeowner’s insurance coverage is based on replacement value (great!) and is an all perils policy (great again!). They currently have the following limits and deductibles:
- Coverage A (Dwelling Coverage): $240,000 limit with a $1,000 deductible
- Coverage B (Other Structures): $24,000 limit with a $1,000 deductible
- Coverage C (Personal Property): $120,000 limit with a $1,000 deductible
- Coverage D (Loss of Use Coverage): up to 24 months not to exceed $24,000
- Coverage E (Liability Coverage): $150,000 each occurrence
- Coverage F (Medical Payment Coverage): $1,000 each person
After taking a detailed look at each line item, they decide that $240,000 is actually the market value of their home, but that includes land costs. They could build a comparable home for around $200,000 if their home was a total loss, so they would like to decrease the dwelling coverage. They are okay with the $1,000 deductible, as they have a small emergency fund that would cover it in the event that they needed to file a claim. They also would like to decrease their liability coverage to $100,000, since their net worth is around that amount. They’ll take another look at these numbers next year before renewing their policy.
They use the spreadsheet to request quotes on their homeowner’s insurance policies based on the new coverage they desire and use their independent insurance agent to give them updated quotes.
In the end, they are able to save about $100 a year on their homeowner’s insurance policy, which isn’t bad considering it took them about 1 1/2 hours to complete the insurance quote spreadsheet and analyze the coverage.
If you haven’t received updated insurance quotes in the past year or two and/or you have had a significant life change such as a marriage/divorce, change in career, etc. you should get an updated quote now.
- IMPROVING– At a minimum, check your current home liability insurance coverage and make sure that it is sufficient to cover your assets. Check your deductibles and make sure that you have sufficient money in savings to cover those amounts if needed.
- INVESTED– Check your current homeowner’s liability insurance coverage and deductibles (as with improving) and get some homeowner’s insurance quotes online or with some local agents using the information in the spreadsheet.
- UNSTOPPABLE– Check your current homeowner’s liability insurance coverage and deductibles (as above) get insurance quotes online from a variety of direct sellers (Esurance, etc.) and fill out in detail and send the spreadsheet to an independent insurance agent or multiple other agents.
Note here, though, that you may want to send your auto and homeowner’s information together, as many policies will offer discounts (around 15% is common) for combining these policies at the same insurer. Auto insurance was covered in the previous class IN201.
Keep your insurance quote information and related policy request information digitally in a separate file folder where your other personal finance information is kept so that you can easily obtain new quotes on a regular basis.
Here is a nifty document you can use to write in your current homeowner’s insurance policies and keep in the front of your homeowner’s insurance binder section in your Financial Plan Binder. Then if you have any questions, you’ll easily be able to see your coverage at a glance.