Questions About Homeowners Insurance

16 August 2004, Revised October 18, 2006, April 6, 2011

What is homeowner’s insurance?

It is insurance that protects a homeowner against loss from fire and other hazards that may impair the value of their home.

"Is homeowners insurance a settlement cost?"

Yes, it appears on the Good Faith Estimate as an estimated amount, and the actual amount is shown on the HUD1, which is the closing document that lists all settlement costs.

It is not a mortgage cost, but lenders require that their "minimum insurance requirements" be met before they will fund a loan. The house is their collateral, and they don’t want to lose it to a fire or other catastrophe.

The insurance requirements vary from lender to lender but on a house purchase, most require that the premium be paid for the first year at closing. If the borrower is maintaining an escrow account, an additional amount equal to two months of premiums must be paid to fund the account. This adds to a total of 14 months of premiums due at closing.

Can I shop for homeowners insurance on my own?

You can and you should. Homeowners insurance is a lot easier to shop for than a mortgage because premiums change only occasionally, so the price you are quoted is very likely the price you will pay.

Shoppers should be aware that carriers today have access to databases that combine claims data from many companies. If you have been making numerous small claims, all the carriers you shop will likely be aware of it. It is still worth shopping, however, because the carriers use different risk evaluation systems.

In shopping for the lowest premium, you must be very careful to compare apples with apples. The principal factors you must hold constant in soliciting quotes from different carriers are the deductible and the coverage.

The deductible is the loss amount that is the homeowner’s responsibility, e.g., $1,000. Only losses above that amount are insured. Higher deductibles carry lower premiums. But lenders limit the amount of deductible they will allow -- $1200 is a typical maximum.

The coverage dictates the maximum loss the policy will pay. There are four levels of coverage, called "actual cash value" (lowest coverage), "replacement cost", "extended replacement cost", and "guaranteed replacement cost" (highest coverage, but not necessarily available). Higher coverage carries higher premiums. Lenders typically require coverage of 125% of replacement cost, though this may be scaled down if the  land accounts for an unusually large part of the house value.

"Consumer Reports suggests carrying a high deductible. Do you agree?"

Yes. I have the highest deductible my carrier offers, and if they offered a larger one, I would take it. I live in a heavily wooded area, and every other year or so, a large tree falls that I must have removed. Even if the cost exceeds my deductible, I don’t make a claim because it will raise my premium. The number of claims a homeowner makes figures importantly in premium setting.

Homeowners insurance should not be used as a way to budget expenditures for minor mishaps, such as my falling trees. Even if small claims did not impact the premium, the carriers price deductibles so advantageously that it pays homeowners to self-insure.

However, I am free to select my own deductible because I paid off my mortgage. Mortgage borrowers cannot take deductibles larger than those allowed by lenders.

"…my premium just jumped 160%, even though I have had no claims. Why is this? What can I do?"

Welcome to the club, more homeowners than not have had their premiums raised over the last three years, and some have lost coverage altogether. Insurance carriers have been getting tough because they have suffered unexpected losses. Wildfires, floods and mold have caused losses over large groups of houses in the same areas, as opposed to the randomized individual losses that carriers expect.

In addition to general increases in premiums, the carriers have become more discriminating. In setting premiums, carriers today use industry-wide data on claims experience, and credit scores, which they have found are related to claims experience. The result has been larger premium spreads between individual homeowners.

A premium increase of 160% probably means that you have been shifted into a higher-risk category. Given your record, ask your carrier to explain the premium increase. Sometimes they will retreat. If they don’t, shop a few other carriers and see if they have you categorized similarly.

If all the carriers have you labeled as high risk, you may want to explore the possibility that the information they are using to make that judgment is in error. Credit information is known to be error-prone, and it is likely that insurance claims information is as well. You can check other carriers by clicking on Shop For Homeowners Insurance.

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