A home is the biggest purchase that most people make. When you buy a home, you take on all the responsibility of maintenance and upkeep, including being responsible if your home is damaged in an unexpected event. Homeowner’s insurance is what protects you from financial loss if your home is severely damaged and also protects you from personal liability as a homeowner.

What is homeowner’s insurance?

Homeowner’s insurance protects homeowners from property and liability risks. Homeowner’s insurance includes coverage of the building as well as personal items inside the home. It also protects the homeowner if another person is injured inside the home or property by providing liability coverage.

Like most insurance, you pay a premium each month to secure the coverage and, if anything happens, you are protected from financial loss. The cost of your premium may vary based on your home, where you live, the insurance company that provides your coverage, the level of coverage you have and other factors.

Why do I need homeowner’s insurance?

If you own a house, townhouse or condominium and don’t have homeowner’s insurance, you are responsible for covering the cost of any damages that can occur. A major accident — a tree falls on your roof, a fire destroys your home or a pipe bursts and floods your basement — can cost major money. If you aren’t covered, you are vulnerable to huge financial loss.

All homeowner policies cover the following types of losses:

Hazards and perils

Homeowner’s insurance typically covers your home in the case of hazards and perils that may physically damage your home and property, such as fire, water, wind or smoke. If you live in an area that has weather and natural disaster risks — hurricanes, earthquakes, floods or tornadoes, for example — check with your policy to see if you are covered. In some cases, your homeowner’s insurance does not cover these events and you need to purchase additional coverage.

Criminal activity

Homeowner’s insurance typically covers you if you are victim of a crime, such as robbery, burglary, vandalism and arson. Check with your insurance provider on discounts for installing a home security system. Sometimes, this can reduce the rates of your premium.

Liability

If you invite someone to your home and they suffer an injury, you could be held liable for the costs related to that person’s losses or injuries. Homeowner’s insurance can cover you from liability, protecting you from financial setbacks caused by accidents in your home.

What does a homeowner’s insurance policy include?

When you purchase a homeowner’s insurance policy, you are going to be evaluating options based on a few factors:

Premium

Premium is a fee you to pay on an insurance policy to stay covered in order to keep your policy up to date. These fees are often paid as part of your monthly mortgage payment or can be paid directly to the insurer.

Deductible

An insurance policy deductible is an amount of money that a policyholder agrees to pay out-of-pocket before the insurance coverage kicks in. The amount that you pay monthly for a policy is in part determined by how high a deductible you set. Typically there is no deductible for liability coverage.

Actual cash value and replacement cost coverage

A basic policy will pay you the actual cash value (ACV) of your personal property — the value of the property at the time of loss minus depreciation. But, you can opt for a policy with a replacement cost coverage, which means you will receive a comparable replacement of your damaged item. Replacement cost coverage is well worth the small amount more it may cost for your policy.

What are the types of policies?

Homeowner’s policies can be very basic or broad, depending on the amount of coverage. Package policies are several types of coverage combined into one policy and they usually carry a lower premium than you would pay for each type of coverage separately.

Basic coverage (HO-1)

Basic coverage is coverage for named perils such as fire, smoke, vandalism, windstorm, theft or burglary, riot or civil commotion and malicious mischief. The policy sets coverage limits usually expressed by a dollar or percentage amount.

Broad form (HO-2) coverage

Broad form coverage includes HO-1 coverage as well as coverage for a broader list of open perils, like falling objects and damage from weight of snow and ice and water damage from plumbing and more. The policy sets coverage limits usually expressed by a dollar or percentage amount.

Special form (HO-3) coverage

Special form coverage covers 16 named perils and open perils. This means that your home will be covered for almost every danger. There are specific open perils excluded from the HO3 policy. A loss due to a flood or earthquake typically is not covered.

Renter’s (HO-4) coverage 

Renter’s coverage covers the actual value or replacement costs of a renter’s personal property.

• See also: Renter’s insurance

Comprehensive (HO-5) coverage

Comprehensive coverage is the broadest homeowner’s insurance policy available. It covers the building and all its contents, no matter what caused the damage. A main difference between HO-3 and HO-5 insurance is that in HO5, contents of the home are covered for open perils and aren’t limited to a set of 16.

Condominium owner’s (HO-6) coverage

Condominium (condo) owners do not need as much coverage as a house, but need a policy to cover certain structural and property needs within the condo unit. Condominium owner’s coverage gives the condominium owner coverage over the structural portions of the building, in addition to coverage of the actual home unit.

Older homes (HO-7) coverage

Older homes coverage is a special policy that covers owners of older homes that have been remodeled. It covers the high replacement costs or actual cash value of the home, related to the remodeling.

Additional coverage

It’s very important to know what your policy covers and does not cover, because polices do vary the most based on coverage. You’ll need separate policies for these types of items or events:

• Additional coverage for more expensive personal property such as jewelry, artwork collections, musical instruments and computers; insure separately by using a personal property floater, (sometimes called an insurance rider or personal article floater, or something)

• Earthquake damage and water damage due to a flood

• War or cultural conflict

• Volcano eruptions

• Damage due to lack of maintenance, mold, termite infestation, etc.

• Pets, property of tenants or renters, business property pertaining to a business that is conducted at home.

How much coverage do I need?

When trying to determine how much homeowner’s insurance to purchase, you should carefully consider the costs of everything you have in your home. Your policy should cover both the value of your home and the property within it.

Home value coverage

Plan to cover at least 80% of your home’s replacement costs. If you don’t you might not get the full value of your property back in the event that it is damaged. Having 80% coverage will protect you from major financial loss in most situations and will get you the actual value of what you lose — either in case or in replaced property. If you want less coverage, check with your mortgage lender. The lender may have minimum coverage requirements based on the amount of your home loan.

• See also: Home loans

Property coverage

In general, people insure the contents of their house for at least half of the home value coverage. If you insure your home for $150,000 then the contents would be insured for at least $75,000. Contents include personal property such as furniture, furnishings, clothing, appliances, artwork and more.

Before you select the total home value to cover, complete a household inventory so you know exactly what you have in your home that should be covered. This inventory should be comprehensive and include documentation that shows proof of ownership and value.

If your household inventory amounts to more than half the amount of home value coverage you are considering, then you may want to increase your home value coverage.

Here are some household inventory completion tips:

• Walk through your home and open every door, drawers and cabinet.

• Create a detailed list of your personal items — high and low value.

• Keep receipts, take photos or video record your inventory.

• Keep the inventory list and videos and photos in a safe place. Place them in your safe deposit box or a fireproof safe.

• Make a copy of the inventory list and review it with your insurance agent. Most agents provide a household inventory forms to their customers.

• Work together with your insurance agent to make sure you have enough insurance coverage to replace all the items in case of a disaster.

If you have valuable possessions in your home, in storage or carry with you when you travel, you might have to buy a personal property floater. Some insurance companies put a limit on the amount that they will cover in different areas so you might need to purchase an additional policy to cover those items. Always check the details of your policy to know exactly what it does and does not cover.

Once you know the amount of home value and property coverage you want, you can compare policies. As you start shopping around, keep in mind that you don’t want to over-insure your property and waste money on high premiums for lines of coverage that you don’t need. You also can’t make money off an insurance claim, so there’s no reason to buy more insurance than your house and property are worth. In the event of damage, an insurance company will only pay the actual replacement value of the home either in cash or in replacement property, depending on the rules in your policy.

How do I buy homeowner’s insurance?

Insurance is a product that you buy, so it’s important to shop around and compare rates before you buy a policy. You can use online resources to compare companies, policies and rates, to see who will offer you the best coverage options at the best price.

A few online resources for comparing companies, policies and rates are:

• netQuote: www.netquote.com/nq/rm-general.aspx

• InsWeb: www.insweb.com

• Insurance.com: www.insurance.com

After understanding your policy type and exactly what is covered, shop around:

• Ask your friends and neighbors for recommendations.

• Go online to compare rates and get some quotes.

• Do your research on the insurance companies you are considering.

• When you pick a company and are assigned an insurance agent, review that agent’s credentials.

There are many companies that offer homeowner’s insurance of different kinds. We recommend before selecting a policy that you shop around for the best coverage and see if you can get an insurance discount. A good place to start is the company that you buy car or other kinds of insurance from — they may give you a discounted rate for being an existing customer.

When should I update my policy?

Your home value changes over time, so you need to check your insurance policy to make sure you’ve updated the replacement cost of your house. Update your policy when you’ve added major renovations or additions.

If you add a swimming pool, new playground, an in-home business or another feature, check your coverage and add additional coverage if you need to. You may be responsible for covering an attractive nuisance, which is a dangerous place, condition or object that is particular appealing to children.

It’s a good idea to do an insurance check-up once a year to revisit your policy, make sure you have the right coverage and check with your provider if there are any promotions they have that will allow you to lower your rates.

Words to know

Unsure about something you read? Many of the financial terms you came across in this article are defined in our financial glossary. A-Z Glossary

Links we like

Here are a couple online features you might find useful:

• Insurance Information Institute: www.iii.org 

• Insurance Research Council: www.ircweb.org 

• Consumer Watchdog: www.consumerwatchdog.org

• RentersInsurance.net: www.rentersinsurance.net 

• netQuote: www.netquote.com/nq/rm-general.aspx 

• InsWeb: www.insweb.com

• Insurance.com: www.insurance.com