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Last June, after an electrical fire gutted their century-old Brooklyn home, Steven Lawitts and Nancy Ranger counted their blessings. No one was hurt, and they expected their homeowner's insurance would cover them. Even though they had been careful to maintain their replacement insurance policy with inflation protection, they didn't bargain on the estimated $50,000 needed to upgrade their original plumbing system, which couldn't be replaced as it was but had to be brought up to code. "Turned out our policy didn't cover that," says Lawitts.
A whopping 61 percent of American homes are underinsured by an average of 25 percent, according to a recent report by Marshall & Swift/Boeckh, a company that tracks building costs in North America. Anyone with a mortgage must carry some form of home insurance, and more than 95 percent of homeowners do. But, like Lawitts and Ranger, these families may eventually find that even though they're insured, they will be responsible for substantial out-of-pocket costs if they're forced to rebuild and don't want to settle for a lesser home than the one they were in.
One cause of underinsurance is confusion about what's covered by very different policies with very similar names. Here's an overview of the most common options, so you can determine what's best for you.
Insurers also offer extended replacement policies, which add a cushion of an additional 20 percent to 25 percent of coverage to the value you and the insurance company agree to insure your house for. Depending on the amount stipulated, replacement and extended replacement policies "can both be good deals," says Jeanne Salvatore, vice president of consumer affairs at the Insurance Information Institute, in New York City.
In addition, there are supplements to those policies that you can use to customize your coverage:
The key to getting the coverage level you need is to select the right coverage amount. Homeowners often assume that since they were able to get a mortgage on their homes, their current protection is adequate, but that's not true. Some homeowners are covered only for the amount their home cost them to buy, not the total price of reconstruction. To get a more accurate idea of what it would cost to rebuild your home with the same materials inside and out, your best bet is not necessarily an insurance assessor or a real estate agent but local home contractors and builders, who will be able to assess more accurately the cost of rebuilding (which is often not the same as market value). To get a ballpark figure, call several nearby companies in the industry and ask for the price of construction per square foot.
After you've decided on your best policy choices, shop around. Even within a city, policies, coverage and prices vary widely. Independent insurance brokers, who work with multiple agencies, may be able to handle much of your preliminary legwork, and their commissions are usually paid for by the insurance companies.
Finally, once you've gotten the coverage you want, review it regularly. The details of policies can change from year to year, so be sure to read the updates from your insurance company. "When you get your renewal notice, do a side-by-side comparison," recommends Jim Hurley, director of public information for the Texas Department of Insurance. And be sure to factor in any home improvements you have made. If that new deck or renovated bathroom hasn't been reported, it won't be rebuilt.