What is Property Insurance?

So, you wanna own a rental property? In today’s segment, I’m going to give you the basics of Property Insurance. What is it? Is it necessary?

All right, with that out of the way, let’s start again with basics: What is property insurance?

- It protects your home and its contents in case of theft, loss or damage to the inside and outside of your home or property. It may also protect you if someone slips and falls in your driveway and makes a claim against you. You would obtain this insurance through an Insurance Broker.

Many people make the mistake, thinking their policy is with that broker, but the brokeris actually the “middle person” and writes the policy on your behalf, obtaining a fee or commission. But your contract is between yourself, and the actual insurance company. Most premiums are broken up into two parts: The property insurance, and the liability, or more commonly called Commercial General Liability, or CGL. The building value is calculated at a cost per $100 of value.

For example, I’ve seen rates varying between 30 cents per $100, to 80 cents per $100. If we take a home that will cost $300,000 to rebuild, at a cost of 50 cents per $100, we have an insurance premium of $1,500. We then have to add the CGL as well. I have seen Commercial General Liability range from $200 up to $500 per year on the policy, but a typical average is $300. So, we add $1,500 plus $300, for a total insurance premium of $1,800 per year. 

So, what if there is a loss?

Well, you would pay your deductible, and the insurance company would repair or rebuild damages to the property. But is it that simple? Not really, it’s all in the type of insurance you have. There are two main types: Replacement Cost, and Actual Cash Value, or more commonly called, ACV. 

And we were discussing Replacement Cost Insurance versus Actual Cash Value insurance, or ACV. Replacement cost Insurance if there is a claim, your property will be restored to the original condition, and there will be no deduction or appreciation. This means if your kitchen is damaged by a fire, the insurance company will rebuild you a new kitchen.

With Actual Cash Value insurance, your claim is based on the cost of buying items in SIMILAR 

condition to the ones you lost, so depreciation is factored into your payment. This means if your kitchen is damaged by a fire, but it’s 20 years old, insurance will pay you for a 20 year old kitchen. 

So, without a doubt, replacement cost insurance sounds better. But there are still pros and cons of each.

With Replacement cost insurance, while you get everything restored to it’s original condition, the premiums are generally higher compared to ACV policies. 

So if you never have a claim over the time period that you own the property, it will cost you more money in the long run. But with ACV policies, while the premiums will save you money, you’ll be on the hook for the difference between the insurance payout and the brand new item. There’s another term that took me a LONG time to understand…Which is Co-insurance. What is a co-insurance clause?

A co-insurance clause makes sure the homeowner insures their property to an appropriate value 

and that the insurer receives a fair premium for that risk.

For example, if you have a property that will cost $300,000 to rebuild, with a full replacement cost policy, you would pay a premium based on the $300,000 valuation. So, for the more frugal investors out there, they might be thinking, “well, since replacement cost policies are more expensive, I’ll simply

tell the insurance company to insure the property for $200,000 and pay one third less premium!” And that’s where co-insurance clauses come in. Most co-insurance clauses are 80% or 90% of the value of the building. 

This means, in the above example, in order for the insurance company to pay out the proper claim amount and the building is worth $300,000, with a 90% co-insurance clause, the building must be insured to a value of at least $270,000, which is 90% of $300,000. Otherwise the insurance company will force the property owner to share in the loss with the insurance company, and essentially “punishes” the homeowner for failing to insure their property to a proper level. I hope you enjoyed this session on everything you need to know about What is Property Insurance? So always be sure to contact a professional before making any financial decisions.