How Much Home Insurance Is Enough?

May 31, 2011

Home owner's insurance policies are often an after-thought — that is, until disaster strikes.

Home owners in Joplin, Mo., Tuscaloosa, Ala., and other cities recently flattened by tornados are now finding that out too late as they discover that their insurance policies likely will not entirely cover the costs to rebuild.

While most home owner's insurance policies will cover tornado damage, many home insurance policies are undervalued. In fact, one study from 2008 by Marshall & Swift finds that 64 percent of homes are undervalued for insurance purposes.

Home owner's insurance coverage typically comes in three categories:

▪ Replacement cost:It covers the cost of replacing or repairing a home, based on a certain dollar limit. However, some home owners with this type of insurance find that their insurance does not reflect increases in the cost of construction since they originally took out the policy.

▪ Extended replacement cost:The insurance company will pay a certain percentage above the replacement cost to account for inflation. However, home owners still may face inadequate coverage with this too, particularly if they haven’t updated their insurance coverage in a while.

▪ Guaranteed replacement cost:Regardless of how much prices have increased since first taking out the policy, this coverage will pay the total cost of replacing your home. This coverage can be expensive and also difficult to even get.

Most standard home insurance policies also include an "inflation guard" provision, which automatically adjusts the coverage limit when a policy is renewed, but some coverage may charge extra for this.

Many policies also will cover lost or damaged possessions at about 50 percent to 70 percent of the amount of insurance on the home. (USA Today cites an example: If your policy provides $250,000 to rebuild a home, you may stand to also get $125,000 extra to replace your damaged belongings.)

Source: “If Disaster Strikes, Will Your Insurance Come Through?”Gannett News Services (May 31, 2011)