In our experience, most new clients are underinsured by about 22% of the actual costs to rebuild their homes with their current policy. The reason for this is simple. Mass-market carriers allow them to set the limit of insurance for their home. Most times, this limit is equal to the loan on the home or the perceived market value of the home. Both methods are flawed when determining the proper amount of insurance coverage because when you insure your home, you are insuring for “Replacement Cost”. Below is some information to help you understand:
- Market Value reflects the price a buyer is willing to pay for your home when considering the location, the desirability of the neighborhood, the quality and proximity of schools and other services, in addition to the features and amenities within the home itself.
- Appraisal Value is determined by an unbiased professional and is usually requested by a lender to make sure a homeowner doesn’t borrow more than the value of the home – since the home is used as collateral for the mortgage.
- Assessed Value is assigned by the local government municipality to a residence for tax purposes. This value tends to be lower than Market and Appraisal values.
- Replacement Cost is calculated by your insurance carrier to determine the expense involved to rebuild your home after a significant loss to the same condition prior to the loss, in its current location.
Most people think to themselves, I bought my home for $500,000, why would I insure it for $750,000. The reason is, market value is all about location, location, location. If you take your home as it is, pick it up and move it to 1200 N Sheridan Road in Winnetka, IL, what would the market value be? $3,000,000? $6,000,000? Just because the market value is inflated does not mean the cost to rebuild your home is equally inflated. A different zip code may prompt the replacement cost to increase or decrease slightly due to a change in ordinances, labor and material prices but the difference would be a small percentage.
Presently, most people who have coverage with mass-market carriers have what is called “expanded replacement cost”. The home is insured for an estimated replacement cost, typically of the client’s choosing, and the insurance company will pay up to an additional percentage, usually 10-25%. In event of a catastrophic loss, if you insure you home at $500,000 and have 10% of Expanded Replacement Cost, the most the isurance company will pay is $500,000 + 10% = $550,000. Once this limit is reached, the insurance company is finished paying. You are on the hook for the rest, regardless of where the home is in the course of reconstruction.
Unfortunately, no one knows what it would cost to completely rebuild your home with like kind and quality materials at the time of a catastrophic loss, which is why our companies offer “Guaranteed Replacement Cost”. “Guaranteed Replacement Cost” means that our companies will pay WHATEVER the cost is to rebuild your home (with like kind and quality of materials) without limit. Many of the variables of reconstruction are outlined in our separate post “Reconstruction Costs are greater than New Construction Costs”.