What is Homeowners Insurance?

What is homeowners insurance? A homeowners insurance policy protects you and your home against property damage and losses from events like theft, fire, catastrophes, natural disasters, and injury.

Homeowners insurance doesn’t refer to a single type of coverage, it’s more like an entire group of different types of policy features that all protect the same things; you, your belongings, and you’re home based on your specific requirements.

Homeowners insurance doesn’t refer to a single type of coverage, it’s more like an entire group of different types of policy features that all protect the same things; you, your belongings, and you’re home based on your specific requirements.

Because the needs of policyholders can be drastically different, homeowners insurance policies are offered in a wide range of policy types with different coverage levels, and options from basic bare-bones dwelling policies to full-scale comprehensive coverage.

In most cases, the type of policy you will need is going to be dictated by your mortgage lender, if you have one.

Is Homeowners Insurance Required?

Most mortgage lenders are going to require a replacement cost coverage policy, this is often referred to as a “Standard Policy”. In most cases, the lender will even make those payments, they do this from a prepaids escrow account that gets set up at the time of closing.

If you are paying cash, or own the home free and clear, there should be no requirements for homeowners insurance.

Even if homeowners insurance is not required, given the cost of rebuilding or repairing damages, it is certainly a good idea to protect your investments with some level of homeowners coverage.

The mortgage lender will want to know that the house can be rebuilt in case of any damage or destruction. Most lenders are going to require that the house is covered for 100% of its replacement cost.

Another scenario we see homeowners insurance requirements is in an HOA or Home Owners Association. When you live in a condo, there is a homeowners association to take care of all exterior maintenance issues and repairs. This association already has an insurance policy, but its policy will cover the structure of the building and other common areas.

Your individual unit is still your responsibility and you will not be protected by the association’s policy. In such a case, you can buy a separate policy for yourself that will protect your personal belongings. Should there be a theft, damage, personal injury, or any other incident, you can make a claim and get coverage.

Property managers and landlords will often require that their tenants purchase a renter’s insurance policy because it provides an extra level of protection for the homeowner. Renters insurance is considered a form of homeowners insurance. This policy protects the renter’s belongings and provides liability coverage against injuries that occur on the property as well.

How Does Homeowners Insurance Work?

  1. Damage to the exterior and interior of the property — In the event your home is damaged or destroyed by fire, hurricane, lightning strike, or another covered peril, your insurance company would compensate you for the repair or rebuilding of your home. This is called a covered loss and includes other structures located on the property like sheds’ barns and fences.
  2. Damage or loss of personal belongings — This includes things like clothes, furnishings, appliances, and much of the other stuff in your home are covered if they’re destroyed by a covered peril. It is also possible to add “off-premises” coverage to your policy, this enables you to file a claim no matter where the loss occurs.
  3. Liability for accidents or injuries that occur on the property — Provides protection from lawsuits filed by others. This clause even protects from liability issues related to your pets!

A standard policy should cover all four of these categories, while other policy types may only cover certain portions of this list. For example, a renters policy only covers belongings and liability, not dwelling, while an HO-1 policy only covers the dwelling.

In addition to paying for repairs, or replacement, a standard policy should also pay for temporary lodging while repairs are being made to the home.

Not all homeowners insurance policies offer the same level of coverage. There are actually eight different types of policies, these run the gamut from basic to comprehensive.

What is Not Covered?

  • Acts of God — This would be considered as an event that happens which is outside the realm of human control, or can’t be predicted or prevented. Events like earthquakes, hurricanes, and floods are all considered acts of God.
  • Acts of War — This refers to any loss resulting from events like war, invasions, insurrections, riots, strikes, or terrorism. There is specific insurance to cover these types of events. Acts of war are excluded from standard insurance policies due to the high risks involved. There are war risk insurance policies available.

There is also a category of perils or events that are not included on a standard policy but can be covered with additional coverage riders. For example, hurricanes, earthquakes, and floods all require separate coverage at an extra cost.

Actual Cash Value vs Replacement Cost

Under the replacement cost model, the insurance company simply pays for the replacement of the item with a new or comparable item. It doesn’t matter what age or condition the item was in at the time of the claim.

In an actual cash value (ACV) scenario, the insurance company will depreciate the item for things like age or wear and tear. This type of policy essentially pays out what the item was worth at the time of the claim.

For example, if your 10-year-old roof is totaled by a hail storm, the insurance company will pay for the replacement but will subtract for the age of the roof. Let’s say $5,000 is the depreciation estimate, and your deductible is $2,000. On a $12,000 roof replacement, your share of the cost would be $7,000 and the insurance company would pay the remaining $5,000.

The 8 HO Policy Types

These policies are very similar in terms of what they cover, the difference has to do with something called perils.

What are Perils?

Named Perils

  • Fire and/or lightning
  • Windstorm and/or hail
  • Explosion
  • Riots
  • Aircraft
  • Vehicles
  • Smoke
  • Vandalism
  • Theft
  • Falling objects
  • Weight of ice, snow, or sleet
  • Accidental discharge or overflow of water or steam
  • Sudden and accidental tearing, cracking, burning, or bulging
  • Freezing
  • Sudden and accidental damage due to short-circuiting
  • Volcanic Eruption

Open Perils

An HO-5 policy is an open peril policy that provides you with the highest level of protection. In this policy, unless the peril is specifically excluded by the insurance company, it’s covered.

A good example of a named exclusion would be “Construction Defects”. Let’s say the fireplace in your new home was incorrectly installed. This improper installation results in flames and smoke causing damage to the home. A standard homeowners insurance policy would not cover the fireplace but it would cover the damage to the home from the smoke and flames.

It is common to see “open perils” associated with the dwelling portion of an HO-3 homeowners policy while the personal property side of the policy that covers the rest of your belongings is named peril.

It is possible to add open perils coverage to a standard policy but with a higher insurance premium.

Dwelling Coverage

In the case of dwelling coverage for a standard homeowners policy, depreciation isn’t used to calculate the payout. The insurance company will pay to rebuild using materials of similar quality.

The cost of the insurance policy will actually be included in your mortgage payment. If on the other hand, your loan to value ratio is low, you will have the option to pay your premiums separately. However, your lender will probably charge you extra fees for this option.

Liability Coverage

This coverage is also available to renters in an HO-4 renters policy, it helps cover legal expenses if the renter gets sued over an incident that occurs in the rental property.

Renters often assume that the landlord’s insurance policy will cover any issues they have at or on the property, this is incorrect. The landlord should have a separate policy that protects them and their interest in the property only. The liability portion of that policy protects them from liability issues .that arise with the tenant and that relate to negligence on the landlord’s behalf.

While a visitor to the property might have a case against the landlord in the event of their negligence, the brunt of the liability would come down on the renter, not the landlord. this is why many landlords and property managers make a renter’s policy mandatory for their properties.

There are policy limits to the amount an insurance policy will cover. Standard liability limits tend to be $100,000, the policyholder does have the option of purchasing a higher limit. You should discuss your situation and your potential needs with your insurance agent. It is better to be overinsured than underinsured.

Personal Property Coverage

Deductibles

There are different theories about why insurance companies require deductibles, the most likely reason is that the policyholder has some financial responsibility for the claim. The idea is the deductible means the policyholder it’s serious because they have some skin in the game.

Let’s say you have a roof claim due to a hail storm. The roof replacement will cost $12,000 and you have a $2,000 deductible. Your portion of the new roof is $2,000 this comes out of your own pocket, and the insurance company will pay the balance of $10,000.

It is important to note that you have control over how much you want the deductible to be. As a general rule, the more expensive the policy, the lower the deductible.

Recoverable Depreciation

If your replacement cost policy has a recoverable depreciation Clause, the insurance company will pay you the actual cash value amount upfront. Once the repairs are complete oh, they will pay the remaining recoverable depreciation cost.

Insurance companies do this to cut down on fraud. It’s not uncommon for homeowners to use the check they receive for a roof replacement to buy a new car or go on vacation. This doesn’t become a problem for them until they try to sell the home and upon inspection find out that the roof wasn’t replaced, and the insurance money for the roof replacement was used on a trip to Disneyland.

Using recoverable depreciation helps minimize the insurance company’s losses from fraud.

Shopping Around for a Policy

Before you choose a provider, compare them on the basis of a number of factors such as the coverage levels, the premium amounts, deductibles, and so on. Needless to say, a policy available at a lower rate will not always be a great choice because it may not provide you with adequate coverage. Also, review their claim policies and make sure you are satisfied with the terms. How To Save On Home Insurance and Still Get the Most Out of It.

Factors that Can Affect Your Premiums

Roof

In some cases, a roof can be considered uninsurable such as when you have a t-lock or wood shake roof. Should this be the case, you may have to replace the roof or exclude the roof from your policy.

Electrical Systems

Location of the Fire Department

Home Age and Construction

Deductibles

There are other factors a well which can affect premiums such as your credit scores, insurance claims history, and the location of your house.

Other Insurance Policies Which You May Need

Flood Insurance

Some water damage is covered by homeowners insurance, as long as it is not due to flooding. For example, if a water heater bursts and causes water damage to your personal items or nearby sheetrock, the damage would be covered.

Earthquake Insurance

The HO-3 policy is becoming the most popular policy for new homeowners in spite of being a named perils policy. Policyholders can upgrade the policy to remove the named perils and essentially make this policy more similar to an HO-5 without the cost.

Keeping Up With Your Policy

Experts recommend reviewing your insurance policy annually. This means taking a detailed look at your policy, and coverage limits. Your insurance agent should be able to help with this.

In Conclusion

Rising material costs, changing weather patterns, and escalating real estate prices make carrying a homeowners insurance policy a good idea even if it’s not required. Not to mention the peace of mind you’ll gain by knowing you are covered.

Originally published at https://springshomes.com on March 14, 2022.

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I am a Realtor that writes about home buying and home selling. https://www.springshomes.com

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