THE HOMEOWNERS POLICY AND TOTAL LOSS ISSUES
Mind the Gap
Develop accurate replacement cost estimates and know the policies if your clients choose not to rebuild
We previously explored the limitations in the homeowners policy pertaining to home-based businesses, as well as special items such as jewelry. This month we are going back to the basics and reviewing what happens in the event that your client suffers a total loss to his or her home. Questions we will explore include:
Will your client’s policy have adequate coverage to rebuild?
How can you help to ensure that the dwelling limit is sufficient over time?
What if they don’t want to rebuild after atotal loss?
The issue (Part 1)
This is rather straightforward: Do your clients
have homeowners Coverage A limits that are sufficient?
Most young insurance agents will quickly answer that question with “Of course!” They will then back this up by stating that replacement cost estimates were completed for their homeowners policies and the Coverage A limit on their policies corresponded with those estimates.
But what if the estimate had incomplete or inaccurate information in it? For example, what if you input that the basement was only 50% finished when in fact it was 80% finished? Or what if you input that the kitchen was builder’s grade quality when it should actually be semi-custom?
Little differences like this can add up quickly.
Why it matters
Inaccurate replacement cost estimates at policy issuance can snowball into bigger problems down the road. Coverage gaps that start off small will increase over time, as inflation kicks in and widens the difference between a homeowners policy’s current limit of insurance versus what the limit of insurance should actually be.
This may not matter to insureds until they actually need that full limit of insurance. At that point, it may be too late.
How to fix the problem
The first step is to take the time to ask your new business prospects the questions that need to be answered regarding the characteristics of their home. Spend an extra few minutes and tell them that you are doing this for their own protection (and peace of mind). Obtaining complete—and accurate—information is your first step in completing a correct replacement cost estimate and insuring your new client’s home to its proper replacement cost value.
The next step is to add a guaranteed or enhanced replacement cost endorsement onto the policy. This should automatically be done on all of your accounts! While a few insurance companies still offer a guaranteed replacement cost option, most are offering some sort of enhanced replacement cost endorsement. Make sure you know the difference.
Policies with guaranteed replacement cost coverage will pay any amount above the dwelling limit of insurance to replace a home in the event of a total loss. Typically, your clients will need to insure their home to 100% of the calculated replacement value, allow for any adjustments due to inflation/revaluation/appraisals, and agree to notify you (or the insurance company) of any alterations that increase the dwelling amount during the policy term. Be sure to check with your insurance companies for specifics on their guaranteed replacement cost coverage.
On the other hand, policies that offer enhanced replacement cost coverage will cap the amount of coverage that the insurance company will pay in the event of a total loss. In most cases, this percentage is either 25% or 50% more than the dwelling limit of insurance stated in the policy declarations. Again, your clients will most likely need to insure their home to full replacement value (as calculated by the software the company uses), allowing for any applicable coverage adjustments, and agreeing to notify you in the event any alterations are made to the home.
Replacement cost estimates can vary from insurance company to insurance company, and a small amount of inaccurate information in one can turn into a big headache down the road.
Utilizing either of these endorsements will ensure that you have an extra amount of insurance coverage that can (and most likely will) be needed in the event of a total loss.
Just because a home can be replaced for a certain value in today’s market doesn’t mean that same value will be sufficient if a natural disaster strikes the area and the cost of materials and labor increases as a result. In addition, you may find that the automatic coverage increases that occur over time at renewal aren’t actually sufficient to keep up with market conditions.
Using a guaranteed or enhanced replacement cost endorsement will drastically reduce the chances that your homeowners policies are underinsured at the time of a loss.
The issue (Part 2)
Let’s suppose you have completed an accurate replacement cost appraisal on your new client’s home, insured the home to its proper value, and added an enhanced replacement cost endorsement onto the policy. Shortly afterward, your client suffers a total loss to their home.
What if your client doesn’t want to rebuild after a total loss? The answer to this depends on the policy form. Here’s an example of how one of our insurance companies responded to a similar situation:
This past year one of our clients lost his house to a fire caused by a lightning strike. After careful consideration, he decided he didn’t want to rebuild. Instead, he figured the time was right to leave Ohio and move to Florida.
Several of us here assumed that he would receive the actual cash value because he wasn’t planning on rebuilding his home at the location where it once stood. However, the claims adjuster informed him in a subsequent conversation that he would receive replacement cost as long as he chose to build—even if he built in Florida.
The key policy provision that allowed for this reads very similarly to the language that is found in the ISO HO 00 03 (05 11):
If the building is rebuilt at a new premises, the cost described in (2) above is limited to the cost which would have been incurred if the building had been built at the original premises.
In short, the insurance company will pay full replacement cost for our client to build a new home, but they won’t pay any more than they would have if he had chosen to rebuild at his original premises.
Be sure to check your policy forms to see how each will respond in situations like this. Some policies even offer a “cash out” option. In those instances, the insurance company will write your client a check for the policy limits and will not require them to rebuild at all.
Insuring homes isn’t rocket science … but it’s far from an exact science. Replacement cost estimates can vary from insurance company to insurance company, and a small amount of inaccurate information in one can turn into a big headache down the road.
Ask the questions that are needed to complete accurate replacement cost estimates and then protect your client (and your own agency’s E&O) by adding enhanced or guaranteed replacement cost coverage onto your homeowners policies. Any agent who has been in the business long enough will tell you that these types of endorsements are worth their weight in gold at the time of a total loss.
Marc McNulty, CIC, CRM, is vice president of insurance operations at The Uhl Agency in Dayton, Ohio, and has been with the agency for 15 years. He divides his time among sales, marketing, technology and operational duties. Marc also serves as chairman of NetVU’s Young Professionals Chapter.You can reach him at email@example.com.