How Much Dwelling Insurance Do I Need?

How Much Dwelling Coverage Do I Need?

You might believe you should buy home insurance equal to the total outstanding amount of your mortgage or your home's listing price on Zillow. But you would be wrong. You only need enough coverage to cover the cost to rebuild your house.

If you experience a total loss, the cost to rebuild is your home's replacement cost estimate (RCE).

We will get into this estimate and how it affects the amount of insurance you need. We will also discuss other types of home insurance that provide less complete protection.

What is a Replacement Cost Estimate?
Say your house got struck by lightning and burnt to the ground. You want to rebuild to its former glory, but how much will that cost? A replacement cost estimate (RCE) is a cost to rebuild.

An RCE evaluates the cost to rebuild or repair a partial loss. For example, if the fire only destroyed your kitchen, the rest of the home is fine; you do not have to rebuild it. Instead, you will fix it.

Which Factors Impact RCE?

  • Square Footage. Typically, construction companies break prices down by square feet. On average, a home costs between $100 to $200 per square foot, depending on the materials.
     
  • Segregated Categories. Your house has multiple distinct sections. The foundation, the electrical wiring, the roof - they are all unique. A replacement cost estimator breaks down prices for each segment.
     
  • Individual Components. Window replacement costs are different than replacing a load-bearing wall. Estimators look at specific pieces of your home for a detailed estimate.
     
  • Building Materials. Wood-houses are cheaper to rebuild than concrete or steel homes.
     
  • Age of Home. Older homes might use hard-to-find materials. Restoring damaged sections costs more.
     
  • Building Codes. Cities and counties update building codes all the time. If your house is noncompliant with new codes, builders must update it. For example, in Florida, you must contend with wind mitigation codes.

A replacement cost estimate does not include other values, such as:

  • The value of the land beneath the home.
  • Your neighborhood's median home price.
  • Curb appeal features that increase your selling price.

Because an RCE does not include these components, it is often lower than your mortgage, including interest. Do not despair, though, as that is quite common.

What is Hazard Insurance?
Your mortgage lender only wants to protect the house itself, its financial risk. Hazard insurance includes structural coverage, including attached structures, e.g., an attached garage. The types of perils covered are:

Your insurance pays out if the home gets destroyed by one of these hazards (aka perils). As you will notice, it excludes earthquake and flood damage. You must buy those policies separately.

Mortgage lenders require hazard insurance. Fortunately, it is already included in a standard homeowners policy.

Calculating Lender Hazard Dwelling Insurance
Since most perils are natural disasters, rebuild costs vary. For example, if an airplane crashes into your roof, it could leak engine fuel into your floor. If ice or snow causes the roof to collapse, there could be water damage once it melts.

The rebuild and repair costs must consider these extra elements. As we mentioned, most homes cost between $100 and $200 per square foot to build. However, if crews must remove damaged sections first, that will inflate the costs.

Mortgage lenders often need enough insurance to cover the home's total replacement cost, regardless of the peril.

What is Dwelling Coverage?
Dwelling coverage protects your home's structure. Hazard insurance and dwelling coverage refer to the same thing. In both cases, the insurance company will list covered perils (i.e., fire and lightning). If the structural damage is from a named peril, you are protected.

Calculating Dwelling Coverage
The calculation process is the same for dwelling coverage as it is for hazard insurance.

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Resale Value vs. Rebuild Costs
A replacement cost estimate only calculates the price of rebuilding your house. Rebuild costs depend on the price of raw materials and construction labor expenses.

Resale value, however, includes your house, the land, curb appeal, the location's significance, etc., and its sum is the home's total selling price. Resale values are not the same as your home's RCE. It would be the price of your home if you listed it on the market today. Usually, the resale value (aka market value) is higher than the rebuild cost.

Because of this difference, your dwelling coverage should only pay for rebuilding, the RCE.

What is the 80/20 Rule in Home Insurance?
The 80/20 rule affects you when you file a claim. Insurance companies often require at least 80-percent coverage of your RCE, and you must meet that minimum. For example, if your house has a $400,000 replacement cost, you need insurance for $320,000 ($400K x 0.8). If not, you could get less money when filing a claim.

Say you get home insurance for $300,000 instead of $320,000. In this case, your actual insurance accounts for 93.8 percent of what is required ($300K/$320K). If you file a claim, the insurance company will only pay for 93.8 percent of the damages. If the damages are worth $100,000, you will only receive $93,800, and you must pay the remaining balance yourself.

If your insurance does not meet the 80-percent requirement, you can and should add extra coverage. You can talk to your insurance agent about increasing your dwelling coverage limit.

Get a Hazard - Dwelling Insurance Quote
Part of buying a home means getting insurance for it. Young Alfred makes it easy to get the right policy and the right coverage amount. Best of all, we provide a replacement cost estimate report with our quotes. You can use this estimate to show the lender and the insurance company that you have enough coverage. Click the button below to get started!

Hope that helps!

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Young Alfred