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Your home’s market value vs. cost of replacement

You probably couldn’t sell your home for what it would have fetched two or three years ago.  Does this mean you need less insurance?  Probably  not.

Homes are typically insured based on their replacement value, not market value.  Even before the big decline in home values, there was generally a gap between the typical home’s replacement value and market value.  That gap has widened.  This seems to be causing some people to consider reducing their insurance as a way of reducing their premium.  This probably isn’t a good idea.

First, it may be difficult to get the insurance company to agree to this.  Since most  policies promise to pay on a replacement cost basis, insurers don’t feel they get enough revenue to keep that promise unless the premium is also based on replacement cost.  It may be difficult to find an insurance company willing to insure a home based on its market value if that value is way below the replacement value.

Even if you find a willing insurance company, you could be in for an unpleasant experience at claim time.  The policy might pay on a depreciated basis or have a penalty provision that reduces your payment in proportion to how far below replacement value your coverage was.

How do you know the replacement value of your home?  Most insurance agents have calculators that are pretty accurate at estimating this, based on the size and features of your home.  The replacement value may be shocking compared to your market value, but a worse shock is to hear that your claim will only be partially covered because you insured based on the wrong value.

Blog Authored by: Ken Mogren, CPCU

Posted 8:34 AM  View Comments

Tags: insurance
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