Review the Best Choices for Disaster Insurance

05/03/2023

Guaranteeing you’re adequately insured and protected before a disaster is critical. You can start by checking your coverage options, property definitions, and the extent of coverage available. Options will vary by state, company, and product.

Here’s everything you need to know about your choices of home insurance for disasters.

The Four Coverage Categories

Insurance companies define four coverage categories for your home:

1. Dwelling: The structure of your home is considered a covered property. It is referred to in the policy as the “dwelling.”
2. Other structures: Structures separate from your home or linked by a fence, wire, or other forms of connection are referred to in the policy as “other structures.” Examples include tool sheds or detached garages.
3. Personal property: Your belongings and the contents of your home are referred to in the policy as “personal property.” It includes, but is not limited to, appliances, clothing, electronics, and furniture. Not all personal property is covered. Some items may have coverage limits or are covered under different forms of insurance. Examples include, but are not limited to, money, jewelry, and firearms.
4. Loss of use: When a dwelling becomes uninhabitable due to a covered disaster, the cost of additional living expenses are covered and defined as “loss of use.” Loss of use coverage reimburses living expenses, up to a stated limit, that the insured incurs to maintain a normal standard of living after a covered loss.

“Open Perils” and “Named Perils” Coverage

A peril, as referred to in an insurance policy, is a cause of damage that results in an insured loss of property, such as fire or theft. Coverage can be provided on an “all perils” (open perils) basis or a “named perils” basis. Named perils policies list what is covered by the policy and are generally more restrictive. All perils policies list what is excluded from coverage. A dwelling policy usually provides coverage for both the dwelling and its contents on a named perils basis. A homeowners policy usually provides coverage for the dwelling on an all perils basis and coverage for the contents on a named perils basis.

Package vs. Peril-Specific Coverage

A package policy provides coverage for multiple, but usually not all, perils. A homeowners policy is a package policy that provides coverage for fire, lightning, extended coverages, and personal liability. Extended coverage includes coverage for windstorm, hail, explosion, riot, civil commotion, aircraft, vehicles, smoke, vandalism, malicious mischief, theft, and breakage of glass. Some policies, such as earthquake or flood policies, provide coverage for specific perils that are often excluded in package policies. Fire and water damage from an earthquake may be covered by a standard homeowners policy.

It is important to consider what additional perils you may face and verify what is covered by your specific policy. Consult with your insurance company about perils you may face and what perils are covered by your policy.

Does My Policy Cover That?

1. Earthquakes: Most property insurance policies exclude coverage for losses resulting from earthquakes (although they often cover losses related to fires following earthquakes), so separate policies are typically required for earthquake coverage. Some states with risk of loss from earthquakes have government-mandated insurance plans that provide earthquake coverage to property owners who are unable to obtain insurance through the voluntary market.
2. Flood: Most property insurance policies exclude coverage for flood losses. You must purchase a flood policy to be covered for losses caused by a flood. (For a more comprehensive discussion of flood insurance, see Preparing for a Flood.)
3. Hail: Most property insurance policies provide coverage for losses resulting from hail. Hail is a named peril. For coverage to apply under a “named perils” policy, hail must be listed as a covered peril. However, hail is generally included under the broader peril of windstorm. Windstorm coverage includes hail, hurricanes, tornadoes, and straight-line winds. There may be instances where coverages and deductibles apply to only one of these perils, for example, hurricanes, and not to all windstorms.
4. Hurricanes: Most property insurance policies provide coverage for losses resulting from hurricanes under the windstorm coverage, although flood loss associated with hurricanes is excluded. (See Preparing for a Flood for more information.) Most states with risk of loss from hurricanes have government-mandated insurance plans that provide windstorm coverage to property owners who are unable to obtain insurance through the voluntary market.
5. Tornadoes: Most property insurance policies consider tornadoes a covered peril, although they do not cover losses resulting from the peril of flood. (See Preparing for a Flood for more information.) While tornadoes may not be specifically mentioned as a covered peril, tornado losses are one event covered under the windstorm peril.
6. Wildfires: All property insurance policies provide coverage for losses resulting from fires. Depending on the level of exposure, you may need to consider a higher deductible to obtain coverage or keep it affordable. Most states have coverage available via a Fair Access to Insurance Requirements (FAIR) plan or a Joint Underwriting Association (JUA) if the voluntary market is not willing to provide coverage.

How Much Coverage Do I Need?

Depending on the type of policy, dwelling coverage options could include replacement cost coverage, actual cash value, special payment, functional replacement cost or market value coverage, or stated value.

The settlement of a loss will vary depending on the coverage you select when you purchase your policy.

1. Replacement cost coverage: Replacement cost is he current cost to replace the damaged property, with no reduction for depreciation of the damaged property. It is not the market value or the tax-assessed value of the property.
2. Actual cash value: Actual cash value is the cost to replace the damaged property reduced by an allowance for depreciation.
3. Special payment: Special payment is distributed before a damaged dwelling is repaired, rebuilt, or replaced.
4. Functional replacement cost or market value coverage: Functional replacement cost or market value (also known as repair cost) is the cost to repair or replace the damaged property with equivalent construction for similar use without deduction for depreciation (e.g., replacing a plaster wall with drywall). If it is a total loss and repairs are not made, the payment amount will be the market value of the home.
5. Stated value: Stated value coverage is the value of the policy, which is the maximum amount paid at the time of loss, even if the loss amount is larger than the value of the policy. A selected value is established by the insured, and this value is the limit of liability.

Personal Property Coverage Choices

Depending on the type of policy, personal property coverage options could be replacement cost coverage or actual cash coverage, as explained above.

What Is the Insurance-to-Value Ratio?

Insurance-to-value ratio is the relationship of the amount of insurance purchased to the replacement value of the property. It is important to have an accurate assessment of the replacement cost value of your home. If you don’t and then experience a loss, the cost to replace your home may be more than your insurance policy will provide and you would be responsible for covering the difference. Major catastrophes, such as earthquakes, hurricanes, and wildfires, often can create a demand surge for materials and labor, resulting in increased costs to replace damaged property. Consider the effect of such surges when establishing the appropriate replacement cost for your property.

Most property policies have a coinsurance penalty, which requires that your property be insured to at least 80% of the replacement cost or loss payments will be reduced by a proportion of the insured value to 80% of replacement value.

It is also important to realize that other coverage limits within your policy are set as a percentage of the dwelling coverage amount. For example, the limit of coverage for your personal property will usually be at 50% of the dwelling limit. Additional coverage is available via endorsement and is typically increased if you purchase replacement cost coverage for your contents.

Replacement Cost Coverage

In order to qualify for replacement cost coverage, you will most likely be required to insure your property to at least 80% of the replacement cost. If this requirement is met and you have a total loss, your insurance policy will cover the total cost of replacing your home. If the property is not insured to at least the 80% value, then the payment for partial losses may be reduced. For a total loss to be paid, the property should be insured at 100% of the replacement cost.

Additional Limits in the Case of a Total Loss

Many insurance companies offer an endorsement that provides full coverage to replace your property in the event of a total loss. Usually, the company requires that the property be insured to at least 100% of the replacement cost in order to qualify for this additional coverage. As long as this requirement is met, if you have a total loss and it costs more to replace than your limit (due to a misestimate or demand surge), the coverage under your insurance policy will be increased accordingly. The amount of the increase depends on the endorsement purchased and can range from 25% to 100%.

Additional and Optional Coverage

Additional coverage may be included in your policy. One example is a building code upgrade, which provides 10% coverage for upgrades required by the community to meet building codes when a home is being repaired or rebuilt as a result of a covered loss. Optional coverage for perils, such as earthquake insurance, may be available to purchase to supplement your policy.

More Resources

FLASH and The Actuarial Foundation. If Disaster Strikes Will You Be Covered? A Homeowner’s Insurance Guide to Natural Disasters.