At Heinen Insurance we speak with a lot of new clients who have questions about the portion of their homeowner’s insurance policy called Coverage A. Coverage A refers to the part of a home policy that covers the physical building structure. It does not refer to insurance for the contents of the house or liability protection against the homeowner. Beyond helping clients understand each part of their policy, we also help them select the right amount of Coverage A.
Rebuilding Costs Vs. Market Value for Homeowners Insurance
Some people assume that they should insure a home for its market value. However, people buy homeowners insurance to help them pay to rebuild or repair the home that they live in and not to simply discard it and buy a similar one. Using market value as a substitute for a good estimate of replacement cost will not work for several reasons.
These are some examples of the difference between a home’s market value and its rebuilding cost:
- Construction costs may very well exceed the cost for replacing a modest, older home with a similar one.
- On the other hand, the cost of buying a home on land with a very high property value could exceed construction costs.
- Market values include lots, but the policy will assume rebuilding will occur on the same lot as the damaged house.
Finding the area’s average rebuilding costs per square foot would yield a better estimate that market value. Even that still may not account for expenses that are unique to rebuilding. For instance, new construction costs should not require demolishing and discarding parts of a damaged structure. Homeowners cannot assume that building costs are exactly the same as rebuilding costs.
As you can imagine, your lender has an interest in your home as well. While your lender may limit their requirements to the amount of the mortgage balance left, that still won’t tell a homeowner how much their home would cost to rebuild. Also, the mortgage balance should decline as the homeowner makes payments, but there’s no reason to assume that rebuilding costs will also decline over time.
For those reasons stated above, you need to look out for your own interest and be sure you are adequately insured to replace your home in the case of a total loss, and insure your home for replacement cost. As a side note, in Wisconsin, there is a state statute that does not allow a mortgagee to require an insurance policy to exceed the replacement value of a home.
How to Find the Right Maximum Coverage Value for a Home
Be wary of policies that only cover the cash value of a home. These will deduct depreciation from rebuilding costs. For instance, an insurance company could value a 10-year-old roof at far less than a six-month-old roof. Even if a damaged roof was ten years old, a homeowner would not be able to find a roofing company that will offer to find them an old roof to replace their damaged one. They will have to pay for a new roof.
A good insurance agent may suggest adding riders that will ensure adequate coverage in case inflation drives the cost of rebuilding up over the years. A guaranteed replacement cost rider will also protect homeowners against depreciation of their home and other unexpected costs.
In any case, use the resources of an experienced homeowners insurance agent to select the proper Coverage A amount. Homeowners insurance agents have sophisticated tools that they can use to help homeowners estimate the true rebuilding cost of their houses. Developers created this kind of software with the needs of homeowners and insurance professionals in mind, so they will do a better job of estimating current rebuilding costs. In addition, an experienced agent can help tune these values based upon their experience with the local area and type of dwelling.