This may very well be the most costly home insurance mistake – Motley Idiot

The wrong decision about home insurance can be very costly – especially for property owners who only realize after a disaster that they lack important protection.

For many homeowners, one of the biggest mistakes they could end up making is choosing market value insurance instead of replacement value insurance. Here's why.

The importance of replacement cost insurance

Market value coverage is usually cheaper, so it may seem tempting to choose this level of coverage. But knowing the difference between fair value and replacement cost insurance could be key to avoiding the huge financial losses that could result if a homeowner opts for fair value insurance.

When a house and property are destroyed, market value coverage means that the insurer only pays the current market value for a house and the possessions in it. For example, following an insured fire, the homeowner would receive the amount of money that the insurer would bring in for their home and property at the time of the damage in the open market.

Here's the problem: rebuilding a home can cost more than its current market value. This is especially the case if the value of the property has decreased since the owner built the home. But it can also happen that a property owner has paid a lot of money for special functions in the house that would not necessarily increase the market value by the same amount as he paid for these items.

If a home is costing more to rebuild than it's worth, the homeowner would not have enough to get their property back to its pre-damaged condition. They could get a lot less money from the insurer and have to settle for a property that lacks some of the features they had before – or forced to put extra money on the table to rebuild.

And for homeowners who choose market value insurance for their personal property insurance, as well as their home, it is very likely that they will face major financial constraints. That's because most of the items in the home have a market value less than their replacement value. Finally, consider what a used couch, used bed, used TV, and older electronics would make if resold. Chances are, it won't cost nearly as much money as it would to replace these items.

If homeowners don't want to pay out of pocket to buy new things, to replace old possessions that have been destroyed, or to get their home back to pre-disaster condition, then replacement value insurance is the way to go. While the premiums can be a little higher, not choosing this protection can be very expensive if something goes wrong.

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