By Shannon Boyd, Personal Lines Manager, Altus Private Risk
Carrying homeowner’s insurance to protect your home’s value is a no-brainer. But knowing if you have the right amount of dwelling coverage isn’t always easy—especially if you’re unfamiliar with insurance lingo and definitions. Two phrases that are commonly misinterpreted when it comes to dwelling coverage are replacement cost and market value.
It may seem like the replacement cost and market value of your home should be the same, but in reality, they can be drastically different. Market value represents the worth of the property in today’s real estate market. It’s an estimate of what it would sell for, determined by an appraisal. Market value can be determined by factors such as the school district, neighborhood crime rates, acreage and availability of other homes in the area. It’s the agreed-upon value between a buyer and a seller.
But when you insure your home, the dwelling coverage is based on its replacement cost, rather than its market value. Replacement cost is what it would cost to rebuild your entire home in the case of a total loss; this is the dwelling limit on your insurance policy. Your policy may also have an other structures limit, which includes structures such as pools, driveways, fencing and hardscaping.
Carriers typically use factors like age of the home, building materials, interior details, upgrades and square footage to determine the replacement cost. Building and labor costs have all increased dramatically over the past several decades, making the replacement value of homes much higher than the market value, in many cases.
To determine the replacement cost of your home, some insurers will collect data from local contractors to calculate the cost per square foot to recreate your home with the same materials. In many cases, a carrier will also schedule an interior or exterior inspection of the home to determine the most accurate replacement cost.
With the best coverage, the numbers are not arbitrary—they’re based on the real costs to replace your home. For that reason, coverage will change at least slightly with every renewal. Construction and material costs always fluctuate, so you should expect the replacement cost to increase along with inflation and the price of home construction in your area at each renewal.
Your replacement cost will also change with any major renovations. If you plan to add to your home or renovate an existing area, your broker should know first so they can factor it in to any new or existing coverage. If the renovation is significant enough, your carrier may want to do a reappraisal upon completion of the project. Having the right insurance advocate can help you to understand some of the complexities of coverage, so that you’re not left in the dark and underinsured when it comes to protecting your home.