How Should I Insure My Rental Property? An Investor's Analysis

Disclaimer: I am not an insurance expert, nor do I claim to know exact policy types or coverage limits that should be in insurance policies for rental properties. Therefore, any information I provide is merely a stepping stone to helping you realize what kind of policies are out there. For further details and guidance, contact an insurance agent. Because I’m not one! In fact, I invite comments from anyone who can add more insight to this topic to help aid in providing a full understanding.

Believe it or not, insurance is not the most exciting thing to talk about when it comes to a rental property. I mean, maybe it’s exciting thinking about… nope, it’s never exciting. But it is a necessary evil. This article is a tricky one to write because I just honestly don’t know a ton about insurance. I can’t even tell you what coverage amounts are in the policies I have on my properties. Makes me quite the credible author to be covering this topic, huh! But I can give you a quick birds-eye view understanding of a couple of options when it comes to choosing an insurance policy for your rental property.

Actual Cost Value (ACV) vs. Replacement Cost Coverage

Oh geez, I already lost you. I know, even the terms are painful to read, much less to have to interpret and comprehend. Okay, don’t start snoozing yet. I’m going to keep this short and to the point.

Chances are, when you reach out to an insurance company in regards to insuring your soon-to-be rental property, the insurance agent is going to ask if you want Actual Cost Value (ACV) or Replacement Cost Coverage. At which point you most likely respond with, “Huh?”

Here’s what these two coverage types mean, both in official language and layman’s terms:

Official Language:

Actual Cost Value (ACV): The replacement cost minus depreciation, also known as “market value.”
Replacement Cost: The cost to replace the property in full, including similar building materials and structure, and on the same locale as the initial property.

Layman’s Terms:

Actual Cost Value (ACV): You walk away with a check for the market value amount of the property. The end.
Replacement Cost: You are compensated the amount it will take to actually rebuild the property, and you actually rebuild the property. (Oftentimes you will be paid the ACV amount first, and then once the property is rebuilt, you then submit the extra to the insurance company, at which point they will reimburse you that amount.)

Notice in the layman’s section, the one major component that is missing: an explanation on how depreciation plays into the equation. Why did I leave it out? Because depreciation is one of the coolest yet most mysterious calculations I think in all of rental property world, and I couldn’t care less to understand it, yet I love collecting income from it. I let depreciation do its thing, and I don’t worry about how it does it, I just make sure it does it. Therefore, I can’t explain it to you.

But really, I don’t think an in depth understanding of depreciation in the context of these two types of coverage is all that necessary if you can just understand that Actual Cost Value (ACV) covers market value and you don’t have to rebuild the property. You just walk away with the check, and Replacement Cost covers actually rebuilding the property, which will inevitably cost more than market value.

Which Coverage Type Should You Have on Your Rental Property?

It’s up to you. Either one is fine, and technically, there is no right or wrong answer. All you need to do in order to decide which coverage you feel better with is ask yourself, “If my rental property burns to the ground, do I want to rebuild it or just take the check?”

That’s it. That’s all you have to ask yourself. Think about it — which do you want to do?

Considerations

Emotional connection. How emotionally tied to your rental property are you? If you are crazy-tied to it and don’t ever want to let it go, choose Replacement Cost so you can rebuild and recreate your property. If you couldn’t care less about the property and are only in it for the financial investment, take the cash and run with an Actual Cost Value (ACV). Most often emotional connections lie more with people and their primary homes rather than rental properties. My personal feeling on my rental properties? No emotional tie whatsoever (except they are all admittedly very cute)! Bring on the check.
Cost of coverage. No major emotional tie to your rental property? Lucky you! Actual Cost Value (ACV) policies are usually cheaper than Replacement Cost. The ACVs require a lower payout than Replacement Cost, so it makes sense that the cost of the policy would be cheaper. More cash flow for you!
Insurance company. What if you are like me and have no emotional tie to your properties whatsoever and would be totally stoked to just take a check for the value of the property and disappear with it, but then the insurance company you get your policy through only allows for Replacement Cost coverage? Well, then you’re stuck, like me. I use USAA for just about everything in my existence because they are drop-dead amazing (you have to have military ties to use USAA, though, which is why more people don’t use them), and they only allow for Replacement Cost. I love them enough that I just go with it and pay the higher premium. To me, to have such an amazing company is worth it. However! If I went with another company who allowed me the choice, I would choose ACV. Regardless, check with your company and make sure they allow for both types of coverage before you stress over which to go with.

Recommended Coverage Amounts

I can’t recommend a thing on this because I don’t know one number from another. If you’re asking yourself who let me write a blog on this topic if I don’t even know coverage amounts, I wouldn’t blame you. I trusted my insurance agent to recommend what made the most sense, and I went with it.

The one thing I did have a hand in choosing, however, was the deductible amount. That one took a lot of thought, and I still don’t have a solid answer on it. If you choose a higher deductible, you will pay a lower premium for your policy. Now, where the best balance of those two things is I have no idea. This one should mesh with your comfort level.

If a significant amount of damage happens to your property, how much are you willing to shell out of pocket to cover it? I think I’ve bounced between policies with a $2,500 deductible and ones with $1,000. You can get deductibles as low as $500 or sometimes $250, but you will pay a premium for it. Sorry, but you’ll kind of have to weigh this one on your own. But know that this is one number that really doesn’t have a standard or required amount, so it’s totally your picking.

My best advice in terms of coverage and coverage amounts is to shop around. Get quotes from several insurance companies and then compare those quotes, including the premium price and the coverage amounts and limits, and see what looks standard to you. I can’t imagine all the quotes would look drastically different from each other, but who knows.

Umbrella Insurance Policies

Now, this confuses people sometimes. The two types of insurance policies noted above are types of homeowner’s insurance. Those are the basic insurance coverages on any property. Homeowner’s insurance, in its general form, is what everyone has on any property they have, whether it be their primary home or an investment property. This is the basic type of insurance, and everyone has to have it.

An umbrella insurance policy, however, is essentially an add-on. You would not have an umbrella insurance policy without a basic homeowner’s policy.

The umbrella insurance policy is a liability protection. In your homeowner’s insurance policy (whatever type it may be), there is a certain level of liability coverage. The umbrella policy just adds additional coverage limits to that. Typically, an umbrella policy will insure you up to $1M in liability coverage and some policies may hit $2M. As far as what companies offer umbrella insurance policies, I can’t quite tell you since I do everything through USAA, and they offer them. I have heard it can be tricky to find a company who offers it, and some who do require that your homeowner’s policy be through them as well in order to cover you with an umbrella policy. Just ask around, such as on the BiggerPockets Forums, for referrals for companies who offer them, and certainly there should be plenty of options out there.

For more information on using an umbrella insurance policy or an LLC for asset protection, read “Should You Put Your Rental Properties in an LLC?“

Choosing an Insurance Company

This is another one I can’t help you with because I’ve never had to shop for one, but I can tell you a couple considerations when looking for an insurance company.

Shop around like you would anything else. Get full quotes so you can compare coverage amounts and limitations, and compare those coverage levels (and type) with the premium amount you have to pay for it. Compare and contrast the different offerings from the various companies you speak with.
Here’s the tricky part, and with no solid solution — don’t just go off of the cost for coverage, or the best deal, if you will. What’s the #1 horror story when it comes to insurance companies? They bail out of paying out on a claim by coming up with some excuse as to why they don’t have to! This scenario is not worth saving a few bucks on your premium. Why do you think I pay a ton more to use USAA when I could get a significantly cheaper policy elsewhere? Because I know they pay and they pay fast. How to mitigate this with other companies, I have no idea. I think the best thing you can do is ask for referrals for companies other investors like and have an easy time dealing with (preferably ask someone who has had to file a claim!).

As I said, ask for referrals from other investors. It’s the fastest and probably best way to get pointed in the right direction. Or ask any agents or sellers or whoever you are working with if they have recommendations as well. Did I mention the BiggerPockets Forums are great for that?!

Hopefully this gives you at least a starting point when jumping into the lovely world of insurance! Sorry I can’t give you more details, but I’ve found that at least understanding the types of policies makes it much easier to focus on coverage details because you don’t have to stress out about trying to figure out what you are even looking at.

Any insurance experts out there or experienced investors with advice on insurance policies and companies? Or if you are on the other end of the spectrum, ask any insurance questions you have and let’s see if we can get them answered for you by other readers!

Leave a comment below, and let’s talk insurance!

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.