5 Steps to Ensure You Have Enough Homeowners Insurance

Considering homeowners insurance protects what may be the most significant investments of your life, it is critical that you have adequate coverage. But how much homeowners insurance do you need? The truth is that every home has vastly different insurance needs depending on where it’s located, how it’s constructed, what’s inside as well as multiple other factors. Although mortgage companies typically require insurance coverage, they only consider the amount of insurance needed to cover their investment. Therefore, a good place to start your assessment is on the following four main areas of a standard homeowners insurance policy:

  • Dwelling Coverage (Coverage to rebuild your home)
  • Personal Property Coverage (Replaces your belongings)
  • Liability Coverage (Protects you against the cost of legal liability)
  • Additional Living Expenses (Reimburses your additional living expenses incurred from the loss of use of an insured home)

1. How Much Dwelling Coverage Should You Have?

Ideally, you will want enough dwelling coverage to pay the entire cost minus your deductible of rebuilding your home after a covered accident, such as fire, windstorm, or explosion. Dwelling coverage includes the structure of your home, all the materials used to build it, and any attachments, such as a garage, deck, or front porch.

You want enough dwelling coverage to cover the cost of rebuilding your home.

To get a reliable estimate of your home’s rebuild cost, do the following:

  1. Take the square footage of your home and multiply it by the local construction costs. You can find these costs online or contact a local construction company.
  2. Get a second estimate using a free online calculator. You can find free online calculators that will use your home’s size, basic building material, and location to give you a replacement cost estimate.
  3. Now that you have two estimates contact your insurance company and ask for theirs. Typically, if all three numbers are reasonably close, you’ll have a good estimate of your home’s replacement cost.

However, a standard policy won’t account for inflation or any increase in rebuild costs due to changes in local building codes or ordinances. Fortunately, most insurance companies offer endorsements that you can add to your policy to cover rebuilding costs fluctuations. Those endorsements include:

  • Extended Replacement Cost: A policy endorsement that increases your dwelling coverage by an additional 10-50% of your policy limit, or
  • Guaranteed Replacement Cost: Guarantees to cover your home’s rebuild cost regardless of the increase in costs.

Note: If your home has a detached structure (garage or shed, etc.), you will want to ensure you have adequate “Other Structure” coverage. Use the same steps for your other structures as you did for your home.

2. How Much Personal Property Coverage Should You Have?

One of the essential features of home insurance is that it can protect your belongings in the event of a covered accident. Because it’s not just four walls and a roof that makes a home valuable; it’s what’s inside. Typically, your personal property coverage will be a percentage of your dwelling coverage – roughly between 50-75%. To ensure you have the right amount of coverage, do the following:

  1. Take an inventory of your personal belongings: Your first order of business should be to set up an inventory of your belongings. This inventory will provide the proof you will need to file a claim and help you keep track of what you own. The easiest way to create an inventory list is via video. Ensure that you go room by room, taking care to record your furniture, clothing, appliances, and expensive items such as jewelry, electronics, and art.
  2. Certain property-types have coverage limits: As you make your inventory, note your expensive items (jewelry, furs, art, computers, etc.) as insurance companies often assign them sub-limits. This sub-limit means that your reimbursement for these items will be limited to a specific dollar amount. After you have your list of expensive items, contact your insurance company to see if you need an additional policy or an endorsement for them.
  3. Consider upgrading your personal property reimbursement terms: Personal belongings are typically only insured at their actual cash value, meaning depreciation is subtracted from the total reimbursement amount when you file a personal property claim. Since you will likely want to be paid the full replacement value of your items destroyed, rather than just the depreciated value of your items, upgrading your coverage is the sensible thing to do. The good news is that most companies will allow you to upgrade to replacement cost coverage.

3. How Much Liability Coverage Should You Have?

Liability insurance covers the cost of lawsuit judgments, settlements, and the legal defense for injuries or property damage, caused by you, a family member, or your pet. When you are trying to determine the right amount of coverage, think of it this way, if someone decided to sue you, how much coverage do you think you’d need? Generally, you want enough liability coverage to protect your assets, so if you have $400,000 in assets, it would be prudent to have at least $400,000 in personal liability coverage.

However, homeowner policies often only offer between $100,000 and $500,000 of liability coverage. So, if you have more assets to protect, get an umbrella policy over and above that amount. Fortunately, liability insurance is typically one of the least expensive types of insurance.

4. Should You Get Additional Living Expenses (ALE) Coverage?

If you can’t live in your home while it’s being repaired due to a covered accident, how much would it cost you to live in a hotel or other temporary housing? Additional Living Expenses(ALE) coverage (also called Loss of Use coverage) will reimburse you for the additional costs of living elsewhere. Most homeowner’s insurance policies use a percentage of your dwelling coverage to calculate your ALE—usually between 20–30%. Given the nature of this coverage, it is difficult to predict how much you may need; however, if you are risk-averse, you may want to seek the higher end of the limit that your insurer will provide.

5. Do you need additional coverage?

Depending on your situation, you may need additional coverage that’s not included in a standard policy, such as flood and earthquake coverage. Both of these disasters are generally excluded from homeowner’s insurance coverage. Flood insurance is available through FEMA and private flood insurance companies, while in California, many insurers offer policies from the California Earthquake Authority. So take stock of what risks you are exposed to and ensure that you have coverage.

Final Thoughts

Determining the amount of homeowners insurance coverage that’s right for you and your family will depend on many factors, including your home’s location, building materials, and the value of your belongings. Additionally, you should reevaluate your insurance needs periodically or when certain events occur (kitchen remodel or room additions, etc.). This guide is meant to support your evaluation and shouldn’t be your only method of analysis. Additional resources can be found on the Insurance Information Institute website. If you have a complex need or want a professional opinion, you should consult with a qualified financial planner.

Published by Jose Armenta, MsBA, CFP®, ChFC®, EA

Jose Armenta is a CERTIFIED FINANCIAL PLANNER™ professional who specializes in helping federal employees get the most out of their federal benefits. Jose’s experience serving federal employees has provided him with valuable insight into federal employees' unique financial planning needs.

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