Kinds of insurance

 

Property insurance

Two main types of contracts—homeowner’s and commercial—have been developed to insure against loss from accidental destruction of property. These contracts (or forms) typically are divided into three or four parts: insuring agreements, identification of covered property, conditions and stipulations, and exclusions.

Homeowner’s insurance

Homeowner’s insurance covers individual, or nonbusiness, property. Introduced in 1958, it gradually replaced the older method of insuring individual property under the “standard fire policy.”

Perils insured

In homeowner’s policies, of which there are several types, coverage can be “all risk” or “named peril.” All-risk policies offer insurance on any peril except those later excluded in the policy. The advantage of these contracts is that if property is destroyed by a peril not specifically excluded the insurance is good. In named-peril policies, no coverage is provided unless the property is damaged by a peril specifically listed in the contract.

In addition to protection against the loss from destruction of an owner’s property by perils such as fire, lightning, theft, explosion, and windstorm, homeowner’s policies typically insure against other types of risks faced by a homeowner such as legal liability to others for injuries, medical payments to others, and additional expenses incurred when the insured owner is required to vacate the premises after an insured peril occurs. Thus the homeowner’s policy is multi-peril in nature, covering a wide variety of risks formerly written under separate contracts.

Property covered

Homeowner’s forms are written to cover damage to or loss of not only an owner’s dwelling but also structures (such as garages and fences), trees and shrubs, personal property (excluding certain listed items), property away from the premises (such as boats), money and securities (subject to dollar limits), and losses due to forgery. They also cover removal of debris following a loss, expenditures to protect property from further loss, and loss of property removed from the premises for safety once an insured peril has occurred.

Limitations on amount recoverable

Recovery under homeowner’s forms is limited to loss due directly to the occurrence of an insured peril. Losses caused by some intervening source not insured by the policy are not covered. For example, if a flood or a landslide, which usually are excluded perils, severely damages a house that subsequently is destroyed by fire, the homeowner’s recovery from the fire is limited to the value of the house already damaged by the flood or landslide.

Recovery under homeowner’s forms may be on the basis of either full replacement cost or actual cash value (ACV). Under the former, the owner suffers no reduction in loss recovery due to depreciation of the property from its original value. This basis applies if the owner took out coverage that is at least equal to a named percentage—for example, 80 percent—of the replacement value of the property.

If the insurance amount is less than 80 percent, a coinsurance clause is triggered, the operation of which reduces the recovery amount to the value of the loss times the ratio of the amount of insurance actually carried to the amount equal to 80 percent of the value of the property. However, the reduced recovery will not be less than the “actual cash value” of the property, defined as the full replacement cost minus an allowance for depreciation, up to the amount of the policy. For example, assume that a property is valued at $100,000 new, has depreciated 20 percent in value, insurance of $60,000 is taken, and a $10,000 loss occurs. The actual cash value of the loss is $8,000 ($10,000 minus 20 percent depreciation). The operation of the coinsurance clause would limit recovery to 6/8 of the loss, or $7,500. However, since the actual cash value of the loss is $8,000, this is the amount of the recovery.

Recovery under homeowner’s forms is also limited if more than one policy applies to the loss. For example, if two policies with equal limits are taken out, each contributes one-half of any insured loss. Loss payments also are limited to the amount of an insured person’s insurable interest. Thus, if a homeowner has only a one-half interest in a building, the recovery is limited to one-half of the insured loss. The co-owners would need to have arranged insurance for their interest.

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