Note: This guest blog is by Frank Lombard, CPCU, ARM, an independent property/casualty insurance advisor.
Not a day passes without reading something about double-digit increases in the cost of home insurance. The insurance industry claims the increases are a result of inflation, climate change, and consumers filing more claims. While to some extent that may be true, the major cause of the increase may result from consumers being “duped” by the insurance industry. “Duped” means to be deceived or tricked into believing something that, in fact, might be untrue.
Most home insurance policies and insurer regulatory filings base required amounts of insurance on the “replacement cost” of a home. Though not defined in the policy terms, “replacement cost” is referred to as the current cost to build a similar structure on the effective date of coverage or immediately prior to a loss. Many policy forms even note that the cost of the home’s foundation and other below-grade improvements should be excluded when calculating the replacement cost.
ISO HO 3 Loss Settlement (2) “If at the time of loss, the amount of insurance ….. is more than 80% of the full replacement cost …. immediately before the loss”
ISO HO 3 Loss Settlement (2) c “To determine…. the full replacement cost….do not include the cost of the … foundation…”
Home insurers, however, often “require” – not suggest, not recommend, not encourage but “require” – homeowners to maintain limits consistent with another higher value: The insurer’s estimate of what it might cost to “rebuild” the structure after it has been damaged or destroyed in some catastrophic event. Often referred to as the “reconstruction cost,” this value includes a number of additional costs that may, not will, be encountered following an unfortunate damaging event. These costs include the cost to remove damaged materials, specialized labor, surge pricing of labor and materials following a multi-location loss impacting an entire area, and the cost of required building code upgrades or work needing to be performed under less-than-ideal conditions. Most home insurance policies automatically provide, at no additional cost, additional amounts of insurance to cover debris removal and/or the cost of code upgrades. Including these costs often results in the post-loss “reconstruction cost” being 30-50% greater than the pre-loss “replacement cost.”
One software vendor clearly states, “Reconstruction cost includes additional fees above Replacement cost.”
Insurers often use the terms replacement and reconstruction interchangeably, “duping” the policyholder into believing they must maintain higher reconstruction cost limits when only replacement cost limits are required.
For a nominal premium, most insurers offer endorsements that are intended to respond to a potential difference between the pre-loss replacement cost of a home and the actual post-loss cost to repair or rebuild it following a loss. Many insurers even make available the “guaranteed replacement cost” option, which essentially offers an unlimited amount of coverage on the home. Instead of promoting this lower cost option, homeowners are “duped” into purchasing 30-50% more coverage and paying 30-50% more premium than they are required to. This questionable practice is a major factor in the double-digit premium increases most homeowners in Massachusetts are experiencing.
Insurers and their agents may be better served by not “duping” their policyholders and instead informing them of this lower cost option. The premium reductions can be used to purchase other important coverage like special coverage on personal property, flood, earthquake, or personal umbrellas. Most homeowners trust their insurers and agents are doing what is best for them. It may be wise for insurers and their agents to respect that trust and make their clients aware of this option.
