When buying homeowners insurance, property owners must decide on their policy limits. In most cases, it makes sense to buy a policy that provides coverage for the full replacement value of the house. That's what it would cost to rebuild.
Sometimes, homeowners don't do that, though. They may choose a policy with a lower limit. The theory behind doing that is that most repairs won't actually cost the full replacement cost of the house. And premiums are cheaper, so that's less money coming out of a checking account each month.
But what happens when property owners do this? If something goes wrong and their home needs repair, will this cause any problems?
Homeowners need to know about the 80% rule
While skimping on insurance may seem like a great way to save on premiums, the reality is that home insurers are wise to this trick and they have a special rule that is designed to prevent exactly this type of behavior. It's called the 80% rule.
Basically, this rule says that the home must be insured for at least 80% of the replacement cost of the property. So if the house would cost $400,000 to replace, homeowners need to make sure that their policy limits are set at $320,000.
If a property owner does not do this, then the insurance company will only pay a percentage of damages equal to the percentage of the home's value that's insured. Say for example that a property owner with a $400,000 house insured the property for $200,000 or 50% of the home's value. The insurer would then pay just 50% of a covered loss -- even if the loss was for an amount below the $200,000 limit.
So, let's assume a property sustained $75,000 in damages in a fire. The insurer would pay 50% of that amount, or $37,500, even though the $75,000 is below the $200,000 limit.
Don't skimp on insurance coverage
For property owners, it makes little sense to try to save money by skimping on insurance coverage. That's because the risk that comes with not being properly insured is far too great.
The reality is, homeowners insurance provides vital protection for assets. Property owners need to make sure they have not only a sufficient amount of dwelling coverage (to pay to repair or rebuild the property), but also enough:
- Liability coverage to protect their assets in case they are sued when someone gets hurt at their home.
- Personal property coverage, which pays for their personal items in the home that are damaged or destroyed by a covered loss.
Buying comprehensive homeowners insurance means that when a disaster strikes, the insurer will be there to save the day. Since a home is most people's most valuable possession -- and also the place where they keep just about everything they own -- having it properly insured is a key part of avoiding a devastating money disaster.
FAQs
If a homeowner fails to insure their home for a minimum of 80% of its value and a claim is filed, the coinsurance clause will kick in. The insurance company will cover the percentage of the replacement cost comparable to the homeowner's deficient coverage of the 80% minimum.
Should I insure my house for full replacement value? ›
Insuring your home to its full replacement value will help avoid significant out-of-pocket expenses that could eat into your savings and alter your estate plan. In addition, one should also consider the home's contents, other structures on the property, additional living expenses, liability, and more.
What happens if your house is uninsurable? ›
If serious issues exist with the home or property, the FHA will consider the home uninsurable. Borrowers would need to contact private insurers to cover the property, or a 203K loan could be used to make the necessary repairs. U.S. Housing and Urban Development.
Should you insure your house for more than its worth? ›
market value in home insurance. Replacement cost refers to the amount it would take to rebuild your home from the ground up, while market value is the amount that buyers are willing to pay for your house. Your home should be insured at its replacement cost.
Is homeowners insurance really necessary? ›
Though not a legal requirement, many mortgage lenders insist on home insurance and there are lots of reasons why it is good to have it. Structural issues, burglaries, fires and other unfortunate events can happen, and they can be very expensive, making home insurance a prudent choice.
What is the 80% rule in homeowners insurance? ›
When it comes to insuring your home, the 80% rule is an important guideline to keep in mind. This rule suggests you should insure your home for at least 80% of its total replacement cost to avoid penalties for being underinsured.
Is it better to have actual cash value or replacement cost? ›
It depends on your budget, your insurer, and your personal preference. If you're offered a choice, actual cash value may be a more affordable option, but replacement cost value typically offers more coverage. You'll need to decide if you prefer more coverage for a higher premium or less coverage for a lower premium.
What happens to mortgage if you lose homeowners insurance? ›
Key Takeaways. Failing to maintain homeowners insurance can breach your mortgage terms, resulting in penalties, mortgage recall and potential financial challenges. Without coverage, lenders may impose lender- or force-placed insurance, which is a costly alternative to standard home insurance policies.
Why would a house not be insured? ›
Unsafe Conditions. Even if your home's location isn't hazardous, the property itself might be. Here are some key home features that insurance companies may deem unsafe: Building materials: Insurance companies will often evaluate the types of materials used to build the house and the property's structure.
What would happen if a homeowner had no homeowners insurance? ›
Without this coverage, lenders can withhold payments or even deny loans altogether. Not having homeowners insurance can also have financial implications beyond just legal ones. If an accident or disaster were to occur, the homeowner would be responsible for paying for all repairs and replacements out-of-pocket.
The national average cost of home insurance is $2,285 per year for a policy with a $300,000 dwelling limit. This evens out to about $190 per month. But these are just average figures — what you pay for your policy will likely be different. Just as coverage needs vary across individual homeowners, so will costs.
How do insurance companies determine the replacement value of your home? ›
Using formulas that take into account factors such as whether your home is made of brick or wood frame construction, total square footage, number of floors, and number of rooms, an insurance company will calculate what it believes is your home's replacement cost value.
What is full replacement cost and why do you want it? ›
A replacement cost policy helps pay to repair or replace damaged property without deducting for depreciation, says the III. This type of coverage may be available for both your personal belongings and your home if they are damaged by a covered peril. Personal property coverage.
Do you need insurance if your house is paid off? ›
Once you've made your last payment, your mortgage lender will no longer have any say in whether you carry insurance. But consider the fact that you've spent years investing in your home and building equity, and should a loss occur, you will want to have the protection of insurance for that investment.
Who is the cheapest home insurance? ›
USAA and Auto-Owners are the cheapest home insurance companies on average, according to Bankrate's research.
How to scare a home insurance adjuster? ›
Insurance adjusters often start with a lowball offer, hoping you will accept it without question. To scare an insurance adjuster, you must demonstrate that you know the true value of your claim. Reject the lowball offer in writing and provide a detailed explanation of why you believe the offer is inadequate.
What does 100% replacement cost mean for insurance? ›
Replacement cost coverage pays for the replacement of damaged items so you can buy new, equivalent items. This coverage reimburses you 100% when you replace your items with new, similar items. The difference between the replacement cost and the actual cash value is called recoverable depreciation.
What is the advantage of home insurance with replacement coverage? ›
Guaranteed replacement: This coverage helps pay for rebuilding the structure of your home after a covered peril, even if the current cost is higher than the coverage limits listed on your declarations page.
Why do they recommend you get guaranteed replacement cost value coverage? ›
Having guaranteed replacement cost on your policy offers the highest level of protection and means you can breathe easy knowing your home will be covered after a loss, no matter the cost.
What does replacement value mean on homeowners insurance? ›
Replacement Cost Value (RCV)
The amount of money needed to repair your home at today's prices of building supplies; or replace your belongings at today's cost of the similar or like item.
