$500,000 Insurance for $100,000 rental?

[Alan Mills]

Closing on my first duplex next week. I called to set up insurance today. The property was built in 1900. Purchase price is $100,000. After answering the typical questions regarding materials and estimations, my insurance company recommended I insure the property at $500,000. They stated that older properties could require this kind of money to restore the decorative masonry used on the external part of the property, wood flooring, etc.

I’m used to insurance numbers coming in below purchase price because you do not have to rebuild the property, only the structure that is built on it. This is the first time I’ve questioned my very reliable insurance company, but it appears that I am being asked to over insure this property.

Thanks for your thoughts.

[John Mocker]

Alan,
This is a common question when dealing with insurance on rental properties. The pricing on the property is largely based on the rental income it generates. The Insurance policies look to insure based on the Replacement Cost (cost to rebuild with the same kind & quality). That is where your disparity comes from. Below is info from a past post that may be helpful:

"We write with many markets. Most of the better rates are from companies that write the Building coverage on a "Replacement Cost" (RC) basis. It is a better coverage for the policy holder than "Actual Cash Value" (ACV). A policy based on ACV will normally have a lower limit (ACV = RC minus depreciation). RC is the cost to rebuild the structure with the same kind and quality. In a market where rents are depressed, the RC will often be significantly higher than the ACV.

The problem with ACV is that, on a partial loss, the claim, under an ACV basis, has a deduction for depreciation. You will have to kick in for the deductible and the depreciation. If your Rental is in good shape, updated systems, well maintained, etc. the rates from some companies with only RC may be equivilant to others that will only do ACV. I just wrote one in CT that one of our carriers for $400,000 RC was $100 less than the next best rate which was based on $110,000 ACV for the same property.

The second item that was confusing is what the payout will be. Most policies (homeowners or dwelling/fire policies) that include RC contractually require you to rebuild in order to get the Replacement Cost. The initial payment will be for the ACV and then after you rebuild they will pay the remainder. If you chose not to rebuild you do not get more than the ACV. The reason for this clause is that the policy is to make you whole. If they paid the RC without you having to rebuild, you would be getting more than the value at the time of the loss.

Hope this helps. If you need more info on the RC vs ACV please let me know."