Is your older home underinsured?

A row of older brick townhouses on an urban street.
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With insurance companies offering guaranteed replacement cost coverage for most homes, and given that the overwhelming majority of home insurance claims are only partial losses, some consumers believe that the dollar limit on their home insurance policy doesn’t really matter at all. The truth is that many older homes may not be eligible for guaranteed replacement cost. And then something called the co-insurance clause makes it critical that you choose the right limit. Getting it wrong could cost you tens of thousands of dollars if you suffer a loss.

Lots of Canadians really don’t care what the upper dollar limit on their home insurance policy is. Many will accept whatever their broker tells them it should be, and others may try to keep the number as low as possible, knowing that a lower limit means a somewhat lower premium. Especially if you have opted for guaranteed replacement cost, you may think your property is fully covered, regardless of what the stated limit is.

Well here’s a few things that you should know:

  • Many insurance companies don’t offer guaranteed replacement cost (GRC) coverage for older or non-standard homes.
  • Even if you have GRC, many policies limit payouts to 120% of the stated policy limit.
  • If you don’t have GRC, your policy will contain what is called a co-insurance clause, which could mean your home is not fully covered, even in the event of a partial loss.

How does a co-insurance clause work?

Most co-insurance clauses require that your stated policy limit be at least 80% of the actual replacement cost of your home. If you have to make a claim and it’s determined that you didn’t have at least 80% of the required coverage, then you are responsible for the shortfall, and will have to cover part of the loss yourself.

Any claim you make will be subject to the following calculation:

[Actual policy limit] / [80% of actual replacement cost] = [Percentage of the loss covered]

Example #1 (total loss):

You own a home with an actual replacement cost of $500,000. You opt for a policy limit of $350,000.

If your home burns to the ground, presumably it will cost $500,000 to rebuild it. But because you don’t have enough coverage, your claim payment is subject to a co-insurance calculation:

Actual replacement cost: $500,000

Policy limit: $350,000

Amount of loss: $500,000

$350,000 / (80% of $500,000) = 87.5%

So the insurance company will pay you 87.5% of the loss ($437,500), minus your deductible ($1,000) = $436,500. You’ll be on the hook for $63,500 out of your own pocket.

Example #2 (partial loss):

The calculation is exactly the same for a partial loss. So assuming the same home and same policy limit, if you suffer a $35,000 loss, the calculation is as follows:

Actual replacement cost: $500,000

Policy limit: $350,000

Amount of loss: $35,000

$350,000 / (80% of $500,000) = 87.5%

In this case, the insurance company will pay you $30,625, minus your $1,000 deductible = $29,625, and you’ll be left to cover the remaining $5,375.

Why is my limit too low?

There are a number of reasons why you might find yourself with a policy limit that doesn’t reflect the actual current replacement cost of your home. The most common reason is that you haven’t reviewed your policy in a long time, and your limits have fallen behind inflation.

Even though inflation is fairly low in Canada, between 2010 and 2021, prices in general have increased by about 17%. In terms of construction costs, the number is closer to 30%, and a big chunk of that increase has been over the last year and a half, with the pandemic creating shortages of a number of building materials.

If the actual replacement value of your home was $300,000 in 2010, it could be $390,000 or more today. Even if you were well within the 80% coinsurance limit back then (say you had a $280,000 limit), today that would be nowhere close to enough coverage.

The other thing that many people forget to do is inform their broker about renovations to their home. Most policies require you to notify your insurer/broker about any work done to the home that significantly changes your level of risk, or work that adds more than $25,000 to the value of the home.

More specifically, you should make sure to let your broker know at renewal if you’ve done any of the following:

  • Finished your basement
  • Put in an in-ground pool
  • Added a kitchen or bathroom (as opposed to renovating existing kitchens/bathrooms)
  • Added to the square footage of the home

These changes would definitely add to the replacement cost of your home, whereas simply updating floors, counters, cabinets and fixtures would not, even if you spent $50,000 or more doing so. Remember that insurance companies assume that there are periodic updates done to any home, and this is all factored into their replacement cost estimates.

Note: Just because it doesn’t add to the replacement cost of your home, doesn’t mean you shouldn’t document your renovations and additions. In the event of a major loss, especially a fire, you’ll need to show some proof that you had hardwood floors, marble countertops etc. Keep receipts and take lots of pictures, just in case.

Insurance tip

How much does the policy limit affect my premium?

The truth is that increasing your policy limit, if appropriate, won’t cost you that much. Increasing your limit by $50,000, in fact, from $300,000 to $350,000, will only increase your monthly premium by a little over 10%. That often works out to less than $5 a month.

The value of a good broker

It’s a big part of your broker’s job to review your policy with you at renewal, and make sure that if anything has changed over the past year, those changes are reflected. Brokers have access to apps that can calculate your home’s replacement cost based on square footage and a number of other factors. These apps do capture inflation in their calculations, but of course there’s no way for them to know about your renovations. So at renewal time, if you don’t voluntarily disclose that your home has undergone renovations (see above), your broker should ask.

If you have an older home and are concerned that it may be underinsured, one of our seasoned brokers would be happy to review your policy with you and advise on whether you might need to update your policy limits. That’s just how we roll at Mitch. Sure, we want to give you the best possible price, but we also know that the last thing you want is a nasty surprise when it comes time to make a claim. Give us a shout.

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