January 18, 2008
The February issue of Consumer Reports, the magazine has a cover story which lists 12 costly common money mistakes people usually make. Surprisingly enough, one of the top 5 issues was insurance related:
#4. Underinsuring your home
- Potential loss of income: $16,000 to $194,000
- How : You could lose if your home is underinsured and disasters happen. It is estimated that 55% of residential property in the nation is underinsured by an average 28%.
People who’ve followed my original blog know that I had a major fire at one of my investment properties. Total damages were estimated at $154,000 for a 2,000 SF duplex with policy coverage of $165,000 - almost a total loss (too bad, that would have saved me 8 months of grief).
So, how did I come up with $165,000 in coverage as a proper replacement cost?
I originally bought the property in 2003 than spent 3 months renovating it. When the rehab was complete and the property was rented, I switched coverage from a vacancy policy to a landlords policy and determined replacement value at $150,000:
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replacement cost @ $75/Sq Ft = 2000 Sq Ft * $75 = $150,000
The policy has an inflation guard endorsement so with three years of renewals current replacement cost = $165,000.
This valuation serves me three ways:
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There is enough coverage to restore the property.
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There is enough coverage to protect my investment in the property plus appreciation; this keeps myself and the mortgage company happy.
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There is enough coverage to make the insurer happy that my property is adequately insured. They collect the proper amount of premium and don’t get sued for underinsuring a property.
So what magic did I use to come up with $75 / Sq Ft?
I like to use round numbers and evaluate the quality of materials and workmanship when determining the proper value:
$60 / Sq Ft: The very cheapest of labor & materials: Low end windows, doors, vinyl flooring, carpet, drywall with cheap trim, PVC plumbing, low end HVAC, no central air, small kitchen with low end appliances, no dishwasher, garbage disposals, build in appliances. Unless you live in an area with cheap, plentiful labor, you’ll never get a place rebuild for this amount.
$75 / Sq Ft: Low end labor and material: Not the cheapest of everything but close to it. Vinyl double hung windows, hollow core doors, PVC plumbing, off brand HVAC, store bought kitchen cabinets, low end appliances, drywall with whitewood or finished trim. Again, getting work done for this amount requires inexpensive labor. If you live in an area with high labor costs, fugitaboutit. The contractors and subs all drive old pickup trucks. They do quality work but need close watching.
$100 - $150 / Sq Ft. Better quality labor and materials. Higher quality vinyl windows or lower quality wood windows. Some fixtures in the house has been upgraded: vinyl floor to ceramic tile, better quality carpet, some lower grade hardwood floors, higher end appliances, dishwashers, build in microwaves and garbage disposals, copper pipes, higher quality HVAC with central air, wood trim and raised panel doors. At this point you can go from the contractor with the beat up truck to the guy with the shiny truck and sterling references.
$150 - $250 / Sq Ft. Semi-custom to High quality and custom labor and materials. Upgraded and semi-custom or custom kitchen cabinets and appliances. Higher end doors and windows, brand name HVAC, Higher quality wood floors, tile and carpet. Semi-custom bathrooms and custom features build into the house. Your contractor looks like Bob Vila and has a nicer house then you.
$250 and up / Sq Ft - Custom work or historical restoration. Your contractor gets references from YOU and charges enough to make a brain surgeon blush,
Take it from someone who’s been there, don’t be premium rich and insurance poor. Get enough coverage so you don’t have to take a step back in your lifestyle or become the proud owner of a burned out shell.
Anyone have any experience dealing with underinsurance?
A great topic. In Arizona we had massive wildfires several years ago. Thousands upon thousands of acres destroyed and hundreds of homes. Many of those home owner found out their homes were vastly underinsured. The insurance company cut a check and walked away, in some cases.
Another issue is people who add onto their home and then do not notify the insurer, which needs to recalculate their coverage and premium to account for the increased square footage.