As a public service to residents, the Financial Planning Association of San Diego is answering financial questions for readers of The San Diego Union-Tribune. Today’s question is answered by Lynn Buchholz, CFP, president of Buchholz Financial Planning who teaches the “Fundamentals of Insurance” class in the SDSU Executive Education Program
Q: My question is with regard to homeowner’s insurance. Since real estate values are down, should I lower my homeowner insurance amount? Also, should I buy earthquake insurance?
A: You ask two very important questions when it comes to property insurance.
First, let us look at the question about homeowner’s insurance. The
amount of insurance that you buy for your home should not be confused
with the real estate value of your home. Depending on when you bought
your home, median prices have been significantly up and down since 2000,
peaking in the year 2006.
Instead of selecting coverage based on the resale value of your
house, the right amount of insurance is a limit set that accurately
reflects what it would cost to rebuild your home in the event that it is
destroyed.
Many homeowners rely on their agent to calculate the replacement cost
of their home using a computer program designed for that purpose, but
they shouldn’t rely on that estimate alone. Courts have backed up
insurance companies in saying that it is the homeowners’ responsibility
to make sure the contract they sign has adequate replacement limits. So,
look to construction costs in your community for guidance.
A builder who knows your neighborhood and the features of your home
can give you a rebuilding estimate on a cost-per-square-foot basis. If,
for example, the features in your home would average to $250 a square
foot to replace, and your home is 2,000 square feet, you would need to
have a dwelling limit “Coverage A”) of at least $500,000 in order to
rebuild your home. It is wise to take this extra step to make sure that
you are not underinsured, should a disaster happen.
United Policyholders, a group dedicated to educating the public on
insurance issues, conducted a survey of hundreds of individuals whose
homes had been partially or totally destroyed from the 2007 wildfires in
and around San Diego County. The results revealed that two years after
the fires, 66 percent of respondents reported being underinsured, at a
staggering average amount of $319,500.
So, if you have not dusted off your homeowners’ insurance policy for a
while, get reacquainted with it in the new year and be sure that you
understand what you are paying for with your premium dollars.
While you are reviewing your policy limits, evaluate the deductible
that you chose. Most insurers allow you to increase the deductible in
exchange for a lower premium. Increasing your deductible from $250 to
$1,000 can reduce your premiums by as much as 25 percent and will
prevent you from filing small claims that could cause an insurance
company to drop you.
Your second question is about earthquake insurance, and the decision
to buy such coverage very much depends on your personal financial
situation and not what your neighbor thinks. Only approximately 12
percent of California homeowners have earthquake insurance. Many people
still mistakenly believe that their homeowners’ insurance will help pay
for their home to be rebuilt in the event of an earthquake.
Homeowners’ insurance specifically excludes earthquake insurance, and
you have to make a choice to buy it. Premiums are linked to many
factors including how close a home is to a fault line, the age of the
home, the type of construction and the underlying insured value of the
dwelling. The easiest way to find out what premiums would be for your
home is to go the website earthquakeauthority.com. It provides a premium
calculator by which you can determine how much the premium would be if
you were to buy a California Earthquake Authority CEA) policy from your homeowners insurance company.
Non-CEA policies are also available — they usually will be more
expensive but will offer higher limits and additional coverage. Some
complaints about earthquake policies include “the deductible is too
high.” While policies typically have a 10 percent or 15 percent
deductible, if you have no coverage, that means that you have a 100
percent deductible … you’ll bear the entire risk yourself.
If your home represents a large portion of your net worth, buying the
extra insurance coverage is going to do what insurance is supposed to
do by making sure that you do not risk more than you can afford to lose.
To submit a question to the FPA of
San Diego for possible publication, please send an e-mail to info@fpasandiego.org