The coinsurance clause of your homeowners policy requires you to carry coverage of at least 80 percent of your home’s total value if you want to receive full replacement cost for any losses—partial or full—you suffer. If you don’t insure your home for at least 80 percent of its value, you face a coinsurance penalty and coverage for only a percentage of the loss you suffer. Insurance companies insert this clause to discourage policyholders from purchasing coverage of considerably less than the full value of their homes. Without it, policyholders might gamble that they will only suffer small losses and thus purchase insurance with low coverage limits; the insurance companies then would lose money by paying out full replacement cost.
How the Coinsurance Clause Works
There is a formula for calculating the amount you will recover for a loss if you carry insurance for less than 80 percent of your home’s overall replacement cost:
The following demonstrates how the formula works:
Hal owns a home valued at $10 million. He decides to carry homeowners insurance for $5 million on his home. A fire occurs in his $1 million kitchen and completely destroys it. According to the formula, he would receive $625,000 from his insurance company. The calculations are as follows:
$5 million coverage limit / ($10 million x 80%) x $1 million loss = $625,000
Hal owns a home valued at $10 million and decides to carry homeowners insurance for $8 million on his home. A fire occurs in his $1 million kitchen and completely destroys it. According to the formula, he would receive the full $1,000,000 from his insurance company since he meets the coinsurance requirement. The calculations are as follows:
$8 million coverage limit / ($10 million x 80%) x $1 million loss = $1,000,000
If your home’s value increases due to inflation or improvements you make, you need to purchase additional coverage in order to maintain the 80 percent overall coverage limit for full compensation for losses. You can do so without repeatedly purchasing additional coverage by purchasing one of two endorsements: an Inflation Guard Endorsement or a Replacement Cost Endorsement.
If you have questions, contact the Experts at Henssler Financial: experts@henssler.com or 770-429-9166.
Disclosures: The following information is reprinted with permission from Forefield, a division of Broadridge Financial Solutions, Inc. This article is meant to provide valuable background information on particular investments, NOT a recommendation to buy. The investments referenced within this article may currently be traded by Henssler Financial. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. Henssler is not licensed to offer or sell insurance products, and this overview is not to be construed as an offer to purchase any insurance products.
