Recent floods and hurricane damage in New Jersey during the past few years are a wake-up call to everyone to review the adequacy of your homeowner's insurance. The most important figure is the amount of insurance carried on a dwelling (house) because other property loss limits are usually stated as a percentage of it.
Most insurers require that a home be insured for at least 80 percent of its full replacement cost in order to be considered fully insured. The 80% rule applies to losses on a home (dwelling) only, not to personal property. There are restrictions, however. Like all insurance, losses will be covered only up to the limits of the policy.
Here is a specific example. A homeowner with a house having a replacement cost of $200,000 should carry at least $160,000 (80%) of coverage. If a fire causes $50,000 of damage (floods and mudslides are generally excluded), the insured would be paid the full $50,000 with no deduction for depreciation. However, if the house were totally destroyed, the insured would be able to collect up to $160,000, which is the face value of the policy. To cover the risk of loss of the full replacement value would require buying $200,000 of dwelling coverage.
If you have less than 80% replacement coverage and a partial loss, you will receive only a partial payment to repair the damage. If your home is insured for less than 80 percent of its replacement value, you'll receive the greater of the actual cash value of the portion of the house that was destroyed (actual cash value = replacement cost minus depreciation) or a prorated amount determined as a result of the following formula:
amount of insurance purchased x amount of loss
80% of replacement cost
To use the same example as before, if a homeowner had $150,000 of coverage on a $200,000 home, instead of $160,000 (80%), their coverage for a $50,000 loss would be prorated to $46,875 (15/16 or 93.75% x $50,000 = $46,875).
It is a big mistake to not insure your home for at least 80% of replacement cost. In fact, many financial experts advise more. Having at least 80% coverage means that repairs are fully funded up to the policy limit. Ideally, dwelling coverage should increase periodically for inflation when your policy is renewed. If not, check with your agent to make sure that the amount of coverage is still adequate.
As a general rule, the contents of a home are insured for no more than half the coverage on the home. A much better choice is to add a "guaranteed-replacement cost" endorsement to your policy to cover both the home and its contents. Look for a policy rider that will pay 20% to 50% more than the value of a policy if it takes that to rebuild your home.
For personal property, buy coverage that will replace items at current prices, up to a specific limit, rather than their actual cash value (after depreciation). Often, the extra premium for replacement-cost coverage is very moderate (e.g., 10% to 15% more than the amount charged for actual cash-value coverage). If you own expensive items, such as jewelry or silver coins, separate "floater" policies to insure their full value are also advisable. The property may need to be professionally appraised, first, to accurately assess its value.