California is a beautiful state. When I was meeting with our California attorneys and staff at our holiday party, I mentioned that there are so many different and beautiful areas, it is no wonder California is our most populated state. Unfortunately, with wildfires, earthquakes, landslides, and floods, California has its share of insurance problems—especially a recurrent problem of homeowners finding they are underinsured and without sufficient policy limits after large scale catastrophes.

One very knowledgeable commentator, Paul B. Nielander, wrote an IRMI-published article, Valuing A Home Correctly: How To Avoid Underinsurance, suggesting that homeowners policies be written without a policy limit. Here is what he suggested:

[P]erhaps the best thing that could happen to homeowners insurance policies would be the elimination of dwelling and personal property limits entirely with a pure ‘replacement’ clause in which the contract would guarantee that the destroyed structure and personal property would be replaced as it was before the loss with appropriate code upgrades. This would mean the homeowner/insured would be truly protected and the insurers would easily get adequate premium…

I am not so certain how insurance companies would be in a better position to determine the value of personal property replacement costs. But, Nielander makes an interesting observation that policyholders rarely understand how to properly determine structural replacement costs and insurers are in a much better position to do so:

Few, if any, individual home owners have the ability or resources to develop an accurate ‘replacement cost’ value for their home, because the ‘replacement cost’ of a home bears only a passing resemblance to the values a home owner would normally understand….

…..The home owner does not possess the training or the means of evaluating the credibility or accuracy of the appraisal system being used.

Fortunately, insurers do have the ability and the resources to develop the ‘replacement cost’ of all the homes they insure. Because of their ability to spread the cost, insurers can economically develop or purchase the construction cost indexes and the system to use them. In fact, it is the single most important duty an insurer has to itself, its policyholders, and to the public in general. Without accurate replacement cost valuations on all of its homeowners policies, underwriters cannot know their potential liability, rates cannot be set correctly, and the financial health of the insurer itself can be called into question. This is not to mention the life changing harm insurers can do to their policyholders if they underestimate the replacement cost of the home.

In, Insuring To Value is a Difficult Underwriting Requirement Making Underinsured Structures Quite Common, I noted the difficulty many policyholders have determining a replacement cost value on their structures. Judges in some states sometimes mistakenly write that policyholders are in the best position to determine the replacement cost of their home. This assumption is not backed-up by insurance literature regarding the complexities of insuring a structure to value.

So, should we move to a system where the insurance companies are required to determine the value of the residential homes they insure and do away with the replacement cost limits?

Thought For The Day

There is no such thing as absolute value in this world. You can only estimate what a thing is worth to you.
—Charles Dudley Warner