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Homeowner's insurance protects more than your home

When you consider that your home is one of the biggest investments you'll ever make, not having enough homeowner's insurance can be catastrophic. Picture these scenarios:

  • There's a fire in your house, and your insurance doesn't completely cover everything that needs to be replaced: furniture, clothing, jewelry, paintings and stereo equipment.

  • An acquaintance trips over your dog and breaks her arm. A few weeks later you get a letter from her lawyer informing you that $50,000 will keep the case from going to trial.

  • During a storm a tree in your yard falls through the porch roof, and your property damage coverage is only half what it will cost to repair it. You have to come up with several thousand dollars in cash.

  • Your house is broken into and $5,000 worth of jewelry and silver is stolen. Your policy only pays $1,500 for all of the jewelry and $2,000 for all of the silver. The rest is your loss.

Homeowner's insurance has a terrific name because it focuses on you -- the homeowner -- not just the structure in which you live. Aside from protecting your home and your possessions, it provides you with liability coverage. However, many people (and their homes) are woefully underinsured, usually because your lender only requires that you have enough to cover the outstanding mortgage balance.

As a general rule, buy homeowner's insurance that covers as broad a range of catastrophes as possible and most types of losses. Homeowner's insurance policies have three key types of protections: property damage, loss of personal property, and liability claims by others. Here is a look at each.

1) Property damage

This is the most commonly known form of homeowner's insurance. Property coverage protects your home in case of a fire or some other catastrophe, such as a tree crashing through your roof.

There's a little-known catch to property damage coverage, however. Lenders require that the insurance cover at least 80% of the cost to replace your home if it's destroyed. If the insurance doesn't cover that much, you'll get a cash settlement and it's up to you to decide if you're going to rebuild.

Determining replacement-cost coverage can be complicated, because several factors are taken into account:

  • the geographic area in which you live (not the particular neighborhood),

  • the age of your home,

  • the square footage of your home, and

  • the quality of the house's construction.

To make matters more confusing, replacement cost has nothing to do with market value (which includes the structure, plus the land it sits on). In certain areas of the country, replacement costs can run as much as 40% higher than the market value of your house. All your insurance company cares about is the cost of rebuilding your house -- not what the land is worth.

Buy a policy that has guaranteed replacement costs, because then your insurance company must pay for the entire reconstruction regardless of actual costs, not just up to the estimated replacement cost. To lock in this guarantee, you'll need to have purchased homeowner's insurance equal to 100% of your home's current replacement cost, as defined by the insurer.

2) Personal property loss

We tend to accumulate more and more "things" every year. So many of your assets may be in the form of personal property instead of financial assets. Your home is more than the structure itself; it also includes everything that is in it. Homeowner's insurance can protect your personal property both at and away from home, including furniture, silver, jewelry, boats and collectibles.

But be careful; there is usually a maximum payout. If you look at your policy, it may say that it will pay up to $2,000 for lost or stolen jewelry. But what happens if you have four pieces of jewelry, each worth $2,000? If that jewelry is stolen or destroyed in a house fire, all you'll get is $2,000. You've just lost $6,000.

Most policies have "internal limits" such as these for various items. They pay a maximum amount for all items in that category, no matter how many items or what the total. Valuable objects in your home should be appraised and listed individually on your policy as "riders." There usually is only a small additional charge, and the expense is well worth it because you will be fully reimbursed for each of these items.

If you rarely wear your jewelry or rarely use other valuable items, you can save on the insurance premium by putting them in a safety deposit box and purchasing vault insurance. (Although you will pay a small extra premium each time you remove them.)

It's a good idea to buy replacement-cost coverage on the contents of your house, such as your furniture and electronics. That stereo system or computer you purchased for $2,000 a few years ago may be worth only about $250 today. If something happens, and you don't have replacement-cost coverage, you would get only $250 because that's what these items are worth now. A replacement-cost rider for contents is not a major additional cost and it's another one of those seemingly small insurance provisions that can pay off if you ever have a loss.

The good news about personal property coverage is that your homeowner's policy will cover that property even if you're not at home. For example, if you bring your antique silver platter (listed in your policy) to your cousin's wedding reception, and it "disappears," it's still covered even though it was not stolen from your house. Your personal property coverage also will pay for the first $50 in charges on any stolen credit cards. (After $50, the credit card company typically covers the losses, assuming that you've notified the company in a timely fashion.)

3) Liability coverage

The third type of coverage provided under your homeowner's policy is liability coverage for you and your family. In today's litigious society, lawsuits aren't uncommon even among friends and acquaintances.

The amount of liability coverage you choose should not be tied to the value of your home. Whether you live in a $50,000 house or a $1 million mansion, if there is an accident on your property or you caused one elsewhere, you might be sued. You should have at least $300,000 of liability insurance coverage under your homeowner's policy. You also should consider "umbrella liability" insurance to cover damages that exceed your homeowner's insurance.

Separate coverage for home offices

Many people are using parts of their homes for business purposes, with setups ranging from a simple one-person, one-room office to a suite staffed with employees where customers and suppliers come and go.

If you have a home-based business, any damage or liability arising from those business pursuits will probably not be covered by your regular homeowner's policy. Even an accident that occurs during a business dinner at your home is not covered. You can buy a separate policy, or if you're running a single-person operation in your home, you should look into purchasing additional homeowner's coverage called "incidental office occupancy."

Keep good records

Use your camcorder or camera to create a visual room-by-room record of what's there, including any architecturally significant parts such as ceiling molding or parquet floors. Take out any valuables that you own, such as china, silver, jewelry or antiques, and get close-up photos of them.

When you buy a new item of value, make a copy of the receipt and keep it in a file at your office or in your safe-deposit box -- along with the videotape of your house and contents. It doesn't do much good to have all these records if you keep them at home and a fire destroys them! When it comes to homeowner's insurance, the more documentation you have the better.

Renters should get renter's insurance

Even if you don't own a home, you still need renter's insurance. The same rules still apply -- you need to protect all your clothes, furnishings, and personal belongings from a fire or a break-in. Pay special attention to your renter's liability coverage -- you should have the same coverage as someone who owns a home.

There is so much at stake with homeowner's insurance, and it's easy to lose everything you own in a blink of an eye if you're not adequately covered.