The market value on my house dropped, why is my insurance so high?
We get this question from homeowners all the time.
To clarify this misconception, there are 2 pieces that makes this confusing for most homeowners: replacement cost value vs market value of the home.
When insurance companies valuate your homeowners insurance policy, they valuate your home to come up with your homeowners insurance premium.
Some of you may say to yourself, “the market value of my home decreased substantially in the last few years, yet I’m paying to insure for more than what my house is worth!”
That’s where we tend to confuse things off the bat, so let’s take a closer look. Here are 3 things that will help clarify homeowners insurance.
#1 – Market value vs replacement cost
The value that is determined from a real estate appraisal refers to the market value, or the selling price of your home. Factors like property values, the overall economy, the condition and age of the home, and the type of material used to build the home (custom marble floors, etc).
The replacement cost, however, is based on the total cost of labor, activities, and materials to put the structure back to the way it was before the damage. This would include costs related to clearing and cleaning up the damage -activities that precede the actual build out of the home.
Let’s say an insurance appraiser determined that it will cost $200,000 to rebuild your home. Even though the market value of a home will vary between a small suburb, a major city, and a coastal town, the cost to rebuild your home will still be $200,000 or remain relatively the same, given the accessibility of standard building materials.
#2 – A homeowners insurance policy is a contract
Your homeowners insurance policy guarantees financial coverage to help rebuild your damaged home.
For this reason, insurance companies will base the cost of your premium on the replacement cost of your home, assuming the worst case scenario. To add, companies require that your insurance covers at least 80% of the replacement cost of your home in order to get full replacement cost coverage.
If your home replacement cost is $100,000 and you purchase a $80,000 premium, you will more than likely be covered for the entire amount if a covered peril destroys your house.
#3 – The insurance company (NOT your insurance agent) determines your premium
While agents collect all the necessary information from the homeowner, it is the company who determines that cost of your premium. Different companies will have different valuation methods, but your agent will be the expert on helping you choose which insurance option to choose based on your situation.
It’s important to know is that you are insuring your home based on the cost it would rebuild the structure of your house, regardless of the market price, your mortgage, or property values.
