When buying a home, you agree on a purchase price with the seller, and one of the first steps to closing the deal is to talk with your insurance agent to buy a home insurance policy to cover your new home. One of the questions he or she will ask is how much coverage do you need.
NOTE: Keep in mind that how much coverage is often referred to as coverage A, the amount you are insuring your home for. You might insure your home for $100,000 or $200,000. Whatever the amount is,, this is the amount you would receive from your insurance company if your home was completely lost because of a tornado, fire, or other covered peril.
In this scenario, many homeowners make the mistake of choosing a coverage A amount that is comparable to the purchase price of their home. For example, let’s say you’re going to purchase your home for $150,000. You might think that you should choose$150,000 for your coverage A amount. It makes sense, and that is all that your lender would require as well.
In actuality, you would be wrong to do this. The coverage A amount you choose for your homeowner’s insurance policy should be related to the replacement cost of your home, not the market value (price you’re paying to purchase your home).
Difference Between Replacement Cost and Market Value
The terms replacement cost and market value are often used interchangeably, but they shouldn’t be. The confusion is that both terms are indeed valuations of a home. That is, both terms represent a specific value of a given home.
But each value (replacement cost & market value) will inevitably be different, no matter what type of home it is, where it is located, or whether it’s brand-new or not.
“Replacement Cost” Defined
The replacement cost of a home is how much it would cost to replace your home if it were destroyed. Let’s say, for example, that a tornado whipping through Janesville took out your house completely. How much would you have to pay to replace your home? When we say “replace,” we are talking about restoring your home to as close to its original state and utility as possible.
“Market Value” Defined
The market value of a home is essentially what it’s worth on the market if you were to sell it right now. In the case of someone who is about to buy a home, the market value of this home would be how much they are going to pay for it.
Market value has one caveat: The market value of a home is always how much it is worth in a fair sale — not in a foreclosure, for example.
Other Considerations When Choosing Your Coverage A Amount
When considering an amount for your coverage A, it’s also important to remember to factor in any regulations that your lender has (if you have a mortgage on your home or plan to have one) and co-insurance.
Property co-insurance refers to the amount that you (the insured) have to insure your home for in order to get a full payout in the event of a partial loss claim. It is a percentage of your home’s total value, and if you don’t insure your home for at least this amount, you may end up reducing your payout if you have to make a claim.
Deciding on the proper coverage A amount to choose for your homeowner’s insurance policy can be a challenge for any homeowner. At Ellis Insurance, we help residents choose the proper amount of coverage A insurance every day, and we can help you too!
Simply stop in or give us a call today to speak with one of our experienced and knowledgeable agents.