Money Matters - Test Your Homeowners Insurance Smarts

Just because you have homeowners insurance doesn't mean you're protected.

True protection is when you know for a fact that your policy will provide you and your family coverage that allows you to repair, rebuild, and restart after a major loss. Not assume, not guess, but know you have the right coverage.

Yet time and again I've seen homeowners who buy a policy that "seems OK," without really understanding the coverage they have. Often, it's a decision simply based on which company is offering the basic coverage demanded by a mortgage lender at the cheapest premium. You as a buyer figure that if the mortgage lender is fine with it, then you're amply covered.

You're not. All mortgage lenders care about is that your insurance at least covers the value of the loan. That covers their financial risk, but it doesn't cover everything you need to be truly secure.

What You Already Know

Let me put you to the test:

1. If your home is destroyed due to a loss (fire, for example) covered by your policy, the payout you receive will be equal to:
   
   1. Whatever it takes to rebuild my home to the standard it was before the loss.
      
   2. 125 percent of the dwelling limit coverage stated on my policy.
   3. 100 percent of the dwelling limit coverage stated on my policy.
   4. The value of my home's materials at the time of the loss.
   5. I have no clue.
   
   
2. The coverage amount of my policy is adjusted annually for inflation.
   
   1. Yes.
   2. No.
   3. I have no clue.
   
   
3. If my possessions are stolen or damaged in a covered loss, my payout will be equal to:
   
   1. The depreciated value of the possessions at the time of the loss.
   2. The cost to buy new replacements.
   3. I have no clue.
   
   
4. If I can't live in my home while it is being repaired or rebuilt, my policy will help me pay for another place to live for:
   
   1. A maximum of 12 months with no dollar limit.
   2. A maximum of 12 months with a dollar limit.
   3. An unlimited period of time with no dollar limit.
   4. I have no clue.
   
   
5. If I'm ever sued and must pay a large judgment, I have enough personal liability coverage so that I won't be forced to sell my home or other assets to settle the payment.
   
1. Yes.
2. No.
3. I have no clue.

If you were honest in your answers, I imagine you made a few guesses or opted for "I have no clue" more than once. That's not good; you're playing financial roulette with what probably amounts to your largest investment.

You need to immediately check your current policy to see what coverage you have, or call up your agent and discuss the crucial elements of a homeowners insurance policy that truly protects you.

What You Should Know

Let's run through the right answers:

1. A or B

The amount of money your home is insured for is called the dwelling limit coverage. The goal is for your policy to give you a payout that would cover the cost of rebuilding or repairing the home, which can often be more than you anticipate given the ever-rising cost of building construction and materials.

The best homeowners insurance coverage is what is known as guaranteed replacement coverage: Whatever it takes to replace, your policy will pay for. If you can get this coverage, do so, but it's not available in every state.

That brings us to B: Extended replacement cost coverage. With this coverage, your maximum payout can exceed the dollar amount listed on your policy. The typical max is 125 percent of your dwelling limit coverage.

Let's say you have a $300,000 policy and your home is destroyed in a covered loss. If you have a simple replacement cost policy (option C), your maximum payout would be $300,000. But with extended replacement cost coverage, your maximum payout could be as much as $375,000.

2. A

OK, this one is obvious. Not all policies automatically include an annual inflation adjustment, though, and you probably don't check in with your insurance agent every year to update your policy.

But, please, make it automatic: You want the value of your dwelling limit coverage to increase every year to keep up with rising building costs. Get the inflation coverage -- now.

3. B

When it comes to insuring your possessions, if you see the words actual cash value (ACV) anywhere in your policy, then you have a lousy policy. ACV is insurance code for "We're not going to pay you enough to go out and buy a replacement that's new."

"Actual" refers to the depreciated value of the possession at the time of the loss. So if your five-year-old sofa is damaged, you'll be given a payout based on the value of a used five-year-old sofa, not what it will cost you to buy a new replacement. Same with your plasma-screen TV and every other possession.

Doesn't sound too appealing? Then make sure your possessions are insured for replacement cost. With this coverage, the payout is based on the cost to purchase a new replacement.

4. C

Again, no big surprise, but my experience is that homeowners typically have no clue what sort of coverage they have.

You have to realize that if your home is damaged or destroyed, you still need to keep up with the mortgage payments even if you can't live in the home. Yet at the same time, you're going to have to live somewhere else, so that creates a second set of living costs.

That's why this coverage is so crucial: It gives you money to pay the rent for the "second" home while you wait for the home you own to be repaired or rebuilt. Ideally, you want this coverage to give you a payout for as long as needed; if your home is destroyed, it can often take more than a year to rebuild.

If your policy provides just 12 months of extended living cost coverage, you're going to have a lot of out-of-pocket expenses between the time the coverage runs out and you can move back into your home.

5. A

The maximum personal liability coverage on a homeowners policy is $500,000. If the value of your assets -- including your home -- is more than that, you need to purchase a separate personal umbrella liability policy.

If you're ever sued and lose, your liability policy can cover the settlement instead of you having to sell your assets to raise the money. A $1 million policy will cost just a few hundred dollars. That's a small price to pay to be sure you'll never lose your home.

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