Home insurance is a way of making sure you have funds avaible to cover losses and damages to your residence or the assets within it. Home insurance involves paying a relatively small amount of money regularly with the insurance provider promising to pay if you make a valid claim.
Your home is probably the biggest purchase of your life. The median sales price of a house in the United States was $454,900 in the third quarter of 2022, giving homeowners plenty of reasons to protect what may be their largest investment outside of a retirement fund.
Home insurance is meant to provide financial security resulting from problems big and small at home. It is especially useful if a disaster happens against since you’re unlikely to have enough cash on hand to rebuild your home.
Understanding how home insurance works can make it easier to decide what type of insurance is right for you.
The fundamentals of home insurance
Homeowners insurance pays out if your home is damaged or destroyed in an event covered by the insurance policy. It also typically covers injuries to someone on your property or if you’ve caused property damage elsewhere.
What is home insurance?
Home insurance is a contract between you and an insurance company. You pay an annual premium in exchange for the insurer paying to repair or replace your home if it is damaged or destroyed by a covered peril.
After making a claim, you usually pay a deductible to cover your share of repairs. The insurer pays the rest, up to your coverage limits.
Why should you have home insurance?
Insurance is meant to cover loss or disaster, and losing your home to a fire or some other catastrophe is practically the definition of disaster. Without homeowners insurance, you would have to pay for repairs yourself. Your mortgage provider and property tax assessor still expect their payments, whether you are insured or not.
Homeowners insurance is not legally required. But if you have a mortgage, then your lender likely requires you to buy insurance to protect its investment. Even without a mortgage, home insurance is a good idea to protect you from liability and other problems.
Home insurance must not be confused with mortgage insurance, which reimburses your lender if you fail to make loan payments or default on the loan. Mortgage insurance is often required when buying a home if your down payment is less than 20% of the home loan.
The different types of home insurance
There are six categories of home insurance coverage those that offer different types of protection. Understanding the differences can help you decide what you need.
The type of home insurance you should buy is largely dependent on the type of home you live in and your preferences for coverage. You may want everything covered, or just the basics. Renters, homeowners with a lot of valuable possessions, and condo and trailer owners may each need and want different kinds of insurance.
- Dwelling coverage
Dwelling coverage is typically for an amount of money to rebuild your home. It covers the structure of your home, along with the walls, floors, windows and roof. Built-in appliances such as furnaces are covered, as are attached property to your home like a porch, garage or deck.
Covered claims include for damage caused by fire, lightning, wind, freezing, and hail. A flood, earthquake and routine wear and tear are not typically covered.
- Other structures coverage
Some standard policies include other structures in their dwelling coverage. If not, then you may want to buy coverage for other structures such as a shed, fence, gazebo or garage that are not attached to the house.
Most policies cover events that are not specifically excluded. Like dwelling coverage, you are likely to be covered in case of a fire or snow damage. The amount most people need is typically 10% of dwelling coverage.
- Personal belongings coverage
Also called personal property coverage, this coverage is for furniture, clothes, electronic devices, sports equipment and other personal items that are stolen or destroyed by fire, hurricane or other insured event. Most policies insure the items wherever they are, such as if your laptop computer is stolen overseas.
Coverage is typically for 50% to 70% of the amount of dwelling insurance.
Expensive items like jewelry and furs are covered, but usually up to a set dollar amount.
- Liability protection coverage
Liability covers against lawsuits for bodily injury or property damage that policyholders, family members or pets cause to other people either unintentionally or through neglect. The cost of defending the policy holder in court and any court awards are covered by the liability portion of a policy, up to the policy limits.
A typical amount of coverage is $100,000 to $500,000.
- Additional living expenses coverage
Also called loss of use, this part of a homeowners policy helps if your home is uninhabitable after a fire, storm or other insured disaster. It covers hotel bills, restaurant meals and other living expenses while your home is being rebuilt.
The coverage amount for additional living expenses is usually 20% of dwelling coverage.
- Medical payments coverage
Typically, medical payments coverage pays if you cause physical injury to someone outside your home. Unlike liability coverage, no lawsuit is involved and you do not have to be at fault for medical coverage to pay out.
Overall, the details of coverage may vary so it is important to read the terms of each policy, which may be unique to you.
Matching policies to your needs
The coverage types listed above are offered in several types of insurance policies called “policy forms.” Some policies offer more coverage than others. They may have different names at different insurance companies, but typically the policy forms are known as HO-1 to HO-8.
Most common: HO-3
An HO-3 is the most common policy offered. It is “open peril” for the structure of your home that will pay for repairs caused by any peril that is not specifically excluded. Earthquakes and floods are often excluded.
Personal property, however, is a “named peril.” This means that belongings are only covered if they’re damaged by perils specifically listed in the policy. If the peril is not listed then your belongings are not covered.
HO-3 policies are often required by lenders. Owners of multifamily homes may want this coverage to cover risks of having renters live in their houses.
Limited coverage: HO-1 and HO-2
HO-1 typically covers 10 perils, as opposed to 16 in an HO-3. Coverage is limited and many insurers no longer offer this type of policy form.
HO-2 also provides limited coverage, but it may cover a broader range than HO-1.
This policy is specifically for renters and covers 16 perils and personal liability coverage. Personal belongings are insured, but the building’s structure is not.
Extensive coverage: HO-5
An HO-5 policy offers the broadest coverage. Your home and belongings are covered for all causes except those excluded in the policy. Homes must typically be well maintained and in low-risk areas. These policies are sometimes called “comprehensive form” or “premier” coverage.
Condo and co-op owners: HO-6
An HO-6 policy is designed for owners of condominium and cooperative units. Personal belongings and structural parts of the building that the policyholder owns are covered, such as the interior walls of an owner’s unit. It protects against 16 perils, and provides personal liability coverage and covers additional living expenses.
Mobile homes: HO-7
Owners of mobile or manufactured homes, trailers, sectional homes, RVs and modular homes may want an HO-7 policy. It covers the home’s structure, personal belongings, liability, additional living expenses and medical payments.
Personal belongings are covered under a named perils policy. The specific circumstance causing the damage must be named in the policy, such as fires, theft, smoke and vandalism.
Older homes: HO-8
Older homes under an HO-8 policy are covered for up to 10 perils. Reimbursement for any covered damage is paid on an actual cash value basis instead of the replacement cost. Depreciation costs are usually subtracted. Historic homes and registered landmarks usually have this type of policy.
What is not covered by home insurance?
Damages from flooding and earthquakes typically are not covered by home insurance. You can buy add-ons for such coverage.
Here are some other incidents that are usually excluded from coverage:
- Intentional damage
- Water damage from drain and sewer backups
- Landslides and sinkholes
- Mold, fungus and infestations by birds and vermin
- Wear and tear or neglect
- Nuclear hazard
- War or other government action
- Power failure
Can I get extra protection?
Yes, you can usually buy extra insurance through what are called endorsements if your policy does not cover something or if it does not provide a high amount of coverage that you may need.
Flood and earthquake insurance typically are add-ons, as is extra coverage for water backups and service line protection to water and other utility lines that you’re responsible for leading up to your home.
What are the 16 perils?
Policies such as the popular HO-3 policy offers the broadest coverage against 16 disasters or perils. They are:
- Fire or lightning
- Windstorm or hail
- Riot or civil commotion
- Damage caused by aircraft
- Damage caused by vehicles
- Vandalism or malicious mischief
- Volcanic eruption
- Falling object
- Weight of ice, snow or sleet
- Overflow of water from plumbing, heating, air conditioning, automatic fire sprinkler system, or household appliance.
- Sudden and accidental tearing apart, cracking, burning, or bulging of a steam or hot water system, or air conditioning or auto fire-protective system.
- Freezing of plumbing, heating, air conditioning, fire-protective system, or household appliance.
- Artificially generated electrical current
Home insurance can sound complicated, but it does not have to be. Most homeowners want to cover the full cost of replacing their home if it’s totally destroyed by a disaster such as a fire.
After that you may also want to insure your belongings so they can be replaced, and have liability insurance in case someone is hurt on your property. Coverage for additional living expenses can be handy if you have to live at a hotel while your home is being repaired.
While home insurance is not required by law, your lender (if applicable) will probably require it. Insurance can make it easier to sleep at night knowing you do not have to pay out of your pocket to replace your home if something major happens to it.
If you’re thinking of buying a home, be sure to shop around for home insurance policies that fit your needs. Your auto insurance company may be able to a discount for having multiple policies, and you may qualify for discounts if your home has storm windows, fire sprinklers and other safety features.
Home insurance can give you peace of mind and help protect your financial future by protecting what’s likely to be one of the biggest purchases of your life — your home.