INSURANCE TO VALUE: HOMEOWNERS BEWARE

Housing values have plummeted throughout the United States.

The pace of existing-home sales dropped more than 8 percent from January 2008 to January 2009, reported the National Association of Realtors. Home values declined for 76 percent of all U.S. homes during 2008, estimated Zillow.com. And housing prices have fallen in 70 percent of all metro areas over the past several years, according to Moody’s Economy.com. What’s more, the rate of new-home construction is now at its lowest in 50 years, noted the U.S. Census Bureau and Department of Housing and Urban Development.

What’s not going down, though, is the cost of rebuilding and repairing houses. Construction costs rose by more than 4 percent between 2007 and 2008, according to a report in Best’s Review magazine citing Reed Construction Data figures.

Rising reconstruction prices are contrary to the economic news of recent months. And it’s contrary to consumers’ expectations that lower home values should mean lower homeowners coverage is needed.

What’s more, homeowners are already cutting back on insurance expenses. Nearly one in four households already have changed their insurance coverage in the past year to reduce costs, according to a recent survey by the Independent Insurance Agents & Brokers of America (the Big “I”) and local Trusted Choice® member agencies.

With these conflicting pressures, what should a homeowner do? The first thing: Recall what homeowners insurance is designed to do.

Insurance should “make whole” the policyholder after loss or damage to the home from an unforeseen event such as a fire, lightning strike or windstorm. In the case of rebuilding a home, “making whole” means rebuilding the same or similar structure.

When a home is damaged or destroyed, there are several issues that factor into its repair or replacement cost:

• Debris must be removed and discarded.
• Lumber, concrete, and other building materials are in demand on the worldwide market, even if demand is slumping in the United States.
• Building materials are purchased for just one home, not on a large-scale basis as for most housing developments.
• Fuel costs, a big part of construction costs, are higher than just a few years ago.
• Natural disasters in the U.S. have left a shortage of building materials and labor in certain areas.
• Homeowners want to get back into their home as quickly as possible, and speed drives up costs.

The second thing a homeowner should do: Check with your Trusted Choice® insurance professional to see that your insurance program reflects current economic conditions.

Trusted Choice® insurance professionals use the term “insurance to value” to denote that the dwelling limit in the homeowners policy is tied to replacement cost (and not to resale value). Your insurance carrier may periodically analyze replacement-cost trends and suggest adjusting the insurance value of a home.

Check with your Trusted Choice® independent insurance agent about keeping the coverage current. Your Trusted Choice® agent is an advocate at time of claim. But the most important protection for homeowners is to have the proper amount of homeowners insurance—not too high, not too low.

ARE THE LIMITS OF INSURANCE FOR YOUR HOME ACCURATE?

Is the amount of property insurance on your home correct? What is the appropriate amount of coverage for your home? To begin with, it should be insured for at least 80 percent of its replacement cost when covered under a standard homeowners policy. Replacement cost refers to the amount necessary to repair or replace damaged building parts with items of like kind and quality. Some insurance companies even require 90 percent or higher figures when the guaranteed replacement cost option is offered.
With this option, the policy pays the full cost of replacing your home, without any depreciation and often without a maximum reconstruction payment. (This gives you added protection if there is a sudden jump in construction costs due to a major shortage of certain building materials.
Construction costs often "surge" following large catastrophes, such as
hurricanes.) Note that guaranteed replacement cost coverage approaches can vary by state and are not even available in every state.

Many homes are either underinsured or overinsured. For example, some homes insured for long periods of time with one insurance company may have inadequate limits of insurance due to increased building costs. In many cases, homes have been remodeled and improved, and this information has not been conveyed to the insurance agent or company, resulting in severe underinsured home values. If your home is underinsured, you not only have inadequate protection for total losses, but you may also lack full protection for smaller losses.

Sometimes homes are mistakenly insured for their market value. However, market value is normally not indicative of the home's replacement cost.
For example, market value also reflects the cost of the foundation and the nondestructible land value, both of which normally survive intact if the house burns to the ground and has to be rebuilt.

In addition, some homes may be insured improperly to meet mortgage company requirements. Some mortgage companies require the amount of insurance be at least equal to the mortgage balance on the house. The mortgage balance is also not reflective of the home's replacement cost, which is often considerably more but can also be less. Insurance companies and agents often struggle in properly educating mortgage companies about these distinctions, but there is nothing to prevent you from insuring to actual replacement cost if that is indeed greater than the mortgage balance. The problem occurs when the mortgage balance is greater than the replacement cost, which will result in the purchase of a higher limit than needed.

The bottom line is that you should work with your insurance agent to determine the correct replacement cost and resulting insurance limit for your home. Most agents use sophisticated replacement cost estimating packages that can fairly and accurately determine the replacement cost value of your home. Factors that these programs use to determine this figure include the following.

• Square footage of the home, including its configuration
  


• Construction costs for your community
  


• Exterior wall construction type, including frame, stucco, brick, or brick veneer
  


• Style of home
  


• Number of bathrooms and bedrooms
  


• Roof type
  


• Attached garages, fireplaces, built-in cabinets, and other special features, such as hardwood floors
  

The more advanced replacement cost estimating programs require detailed information to improve the valuation estimate. For example, a rectangular-shaped home with 1,800 square feet will have a much lower replacement cost than a similar-sized home with an "L" shape. In other words, the better cost estimating programs require information about the number of corners in the home. The more detailed information your agent asks about your home, the more confidence you can place in his or her recommended limit of insurance.

As a final note, you should request an annual review of your homeowners policy to keep up with increasing building supply and labor costs. Also ask your agent about the advisability of adding an "inflation guard"
endorsement to your policy or about the availability of guaranteed replacement cost coverage to help assure that your home is properly protected.