Insurance Limits: I need how much?

In our continuing effort to educate and inform, Jim Black Construction has been running a series on insurance terms. (See our previous post here.) Today, we are going to go over insurance policy limits: what they mean, why you should care, and what you need.

Make sure you're properly covered or risk taking on more financial burden yourself.

Make sure you’re properly covered by your insurance limits, like an umbrella covering you in the raid, or risk the financial version of ‘getting wet’.

What are insurance limits?

Like the term ‘limits’ suggest, it is the monetary limit of your insurance policy, or in more specific terms, the amount insurance will pay out (minus your deductible) in the event that your home is destroyed or otherwise deemed a total loss. This amount should be based on what it will take to fully rebuild your home, not current market value as is frequently assumed.

Why do your limits matter?

Because this is the maximum amount the insurance will pay to repair or rebuild your home, not having the right coverage could leave you with a large payment gap when rebuilding. For example, if your coverage limit is $300,000 but estimates to rebuild are $350-400,000, it is not your insurance carrier’s duty to pay the additional cost to finish the house. On the other end of the spectrum, if you have too much coverage, you could be needlessly adding hundreds of dollars to your yearly premium for a coverage limit you aren’t capable of reaching. As a reminder, insurance payouts only include replacing your home with same or similar products; it will not pay the full limit of your insurance coverage amount if the house doesn’t cost that amount to rebuild, meaning the ‘extra’ funds cannot be used towards adding upgrades or expansions. Required code upgrades and depreciation, which may affect the insurance payout, will be covered in a future blog.

What do you need?

This is the real question. As stated, this amount needs to be based on what it costs to rebuild your house, not the market value. Market value can be a good starting point to figuring out the coverage you require, but has too many factors that have nothing to do with material and labor costs to make the assumption that the two amounts are ‘close enough.’

For example, most of the Denver Metro Area of Colorado has high home market values, some of which is due to increased costs of materials, but some is due to a high home demand with limited supply. Certain areas in the Southern US, in contrast, have lower home market values, but do not necessary cost less to rebuild. In addition, certain materials, such as lumber, have had increases in price recently, though the amount of the increase varies between regions as does the cost of construction labor.

Per the Insurance Information Institute, general factors that should be included in the cost of rebuilding your home include:

  • Local construction costs
  • The square footage of the structure
  • The type of exterior wall construction–frame, masonry (brick or stone) or veneer
  • The style of the house (ranch, colonial)
  • The number of bathrooms and other rooms
  • The type of roof and materials used
  • Other structures on the premises such as garages or sheds
  • Fireplaces, exterior trim and other special features (like arched windows)
  • Whether the house or parts therein were custom built, such as a custom kitchen or cabinets
  • Improvements made to your home such as adding a bed/bathroom, enlarging the kitchen or other additions that may have added value to your home

As always, it’s best to check with your insurance agent to confirm what, if any, adjustments are needed to your policy.

Thank you for joining us for another edition in our Insurance Terms series. We hope you continue to find them useful and informative.

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