February 27, 2013
Insuring a home properly
If you ask your real estate agent, mortgage loan officer, and insurance agent “how much should my house be insured for” you will most likely receive three different answers. The real estate agent will probably respond that you should insure your house for the market value. The loan officer will probably suggest that you should insure the house for the loan amount. The insurance agent, if they are doing their job properly, should advise you to insure the home for the replacement value. Which answer is correct?
Insuring the home for the replacement value is the right answer. You must have insurance coverage adequate to cover the replacement cost of rebuilding your home in case of a catastrophe.
Insurance companies use a computerized “replacement cost worksheet” based on the historical data of building costs in a specific area. This data is compiled by independent companies who conduct actual surveys of building costs and provide it to insurance companies and companies in the construction industry. By inputting the square footage, number of baths, home style, and the home’s amenities into the worksheet a replacement value is derived. The worksheet also considers the additional expenses of rebuilding a home, such as demolition cost, removal of debris, architectural plans, and even environmental related costs.
The replacement value may not be equivalent to the home’s market value. In a depressed housing market, this value could be more than what a home sold for. The replacement value could also be more than the sales price in a distress sale. The replacement value will also be less than the market value when a sale involves a large amount of acreage. This causes a dilemma because the mortgage company or bank wants the insurance to be equal or greater than the loan amount and the buyer doesn’t want to insure more than the replacement cost.
Many states have enacted laws stating lenders cannot force insurance above the replacement cost of a home due to this problem. One should note that the replacement cost worksheet works well in determining the correct amount of insurance for the average home in the average community. High valued homes with a lot of customization create a different set of replacement valuation challenges.
Why do Insurance Companies Insist on Insuring at Replacement Cost?
Most importantly, insurance companies and their agents want clients to have adequate insurance in the event of a catastrophe. No one wins when a fire destroys a home and there is not enough insurance to rebuild what a family has worked long and hard to accumulate. Insuring to replacement cost also ensures that the insurance company is collecting enough premium to set aside the reserves that are needed to pay its clients claims when they do happen.
The agents at Dave Terpening Insurance, Inc. are experts in the area of homeowners insurance.
Please call us at 1-800-585-1776 for assistance with insurance for your home.