HO-3 Policy
July 26th, 2010
HO -3 is the most complex insurance policy.
The widely used HO-3 policy, which provides the most extensive homeowner’s coverage available, is sometimes a problematic one. If the home is damaged, the loss will be measured at replacement cost without deduction for depreciation, subject to the following. The following takes away much of what the preceding gives.
Damaged Building
First, anything resembling replacement cost is only available if at the time of loss the amount of insurance in this policy on the damaged building is 80% or more of the full replacement cost of the building prior to the loss. If the house would cost $300,000 to rebuild, the homeowner has to purchase a policy with a limit of at least $240,000 or the replacement cost coverage becomes actual cash value coverage.
What’s the Cost?
Most homeowners neither know about this limitation nor have a good idea what it would cost to replace their house. A house’s value is set by the real estate market; a house’s replacement cost is set by the construction market. Even if a homeowner has an idea what the house is worth, they are unlikely to know what a builder would charge to rebuild it. More than two thirds of homes across the country are insured for less than replacement cost, and insurance consumer advocates United Policyholders reports that 75 percent of California homeowners affected by the 2007 wildfires in San Bernardino and Riverside counties were underinsured by an average of $240,000. 1
It would seem to be in insurance companies’ interest to make sure that homes are insured at their full replacement costs, because higher policy limits yield higher premiums. But sometimes additional premiums may not be worth the additional risk, particularly if price competition among companies keeps premiums artificially low.
Marketing of Insurance Evolves
Moreover, as the marketing of insurance moves from local agents to corporate call centers, the ability to arrive at an accurate estimate diminishes. Insurance companies draw on vast databases in assessing the value of homes, but whether a house contains hardwood floors or custom cabinetry and the current costs in the local construction market are impossible to determine from a distance.
The problem of underinsurance is not only one of ensuring the replacement cost. In the HO-3 policy, even if the house is insured for more than 80 percent of its replacement costs, the insurer’s payment is limited to the least of the following amounts, the first of which is the limit of liability under this policy. So replacement cost means replacement cost up to the policy limits. If the house costing $300,000 to rebuild is insured for $275,000, the homeowner will be out $25,000 if she has to rebuild.
Read on
Landlord Insurance Policies Do Not Cover Tenants When it comes to buying insurance for a residence, many people think homeowners insurance is only necessary if you own a home. Nothing could be further from the truth.Arguments of Insurance Companies
Even if the house is insured to its full value, the insurance company may still try not to pay. A second limitation on replacement cost in many versions of the HO-3 caps the homeowner’s claim at the replacement cost for equivalent construction. Equivalent to what? Insurance companies routinely argue that means equivalent to the house that was damaged or destroyed.
Moreover, most policies contain exclusion for loss resulting directly or indirectly from ordinance or law. If the policyholder reads the policy, she might think this means that if the house is condemned because it is in disrepair, that loss is due to the enforcement of a law and is therefore outside the coverage. The insurance company, however, interprets the clause more broadly to cover situations in which the word “indirectly” means whenever the law affects the extent of the loss as well as its occurrence.
1. Dupre v. Allstate Ins Co. 63 P.3d 1024
© 2010 John Smith
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