With home construction costs continuing to soar due to issues with the supply chain, labor shortages, and worsening natural disasters, many homeowners could be left underinsured.
During periods of rapid inflation, the cost to rebuild may suddenly spike to account for higher lumber prices or a shortage of contractors. If homeowners don’t update their policy to reflect these fluctuations, they may not have enough insurance to fully rebuild their home after a disaster.
The price of materials used in home construction has increased 36% since the start of the pandemic.  As we settle into what forecasters predict will be another active hurricane and wildfire season, it’s more important than ever for homeowners to review their policy and make sure they have enough coverage should disaster strike.  
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How rising inflation affects your home insurance
In May 2022, the annualized inflation rate reached a 40-year high of 8.6%.  According to Michel Leonard, chief economist at the Insurance Information Institute, this has been driven mainly by the rising cost of capital goods , construction materials and vehicles, and escalating labor costs.
Leonard says delays in the supply chain and business cycle have limited the supply of primary construction commodities, like lumber and asphalt, which have caused prices to skyrocket. After the war in Ukraine began to ramp up, global trade issues worsened.
“Home replacement costs increased 16.3% from March 2021 to March 2022, more than double the Consumer Price Index (during that span),” Leonard says.
Homeowners insurance policy limits are typically based on the insurance company’s calculation of your home’s replacement cost. This takes everything from the home’s age to construction style into account, along with economic factors like the local cost of building materials and labor where you live.
In the event of a disaster, most homeowners want their homes rebuilt to their pre-loss condition, says Mark Friedlander, spokesman for the Insurance Information Institute. With inflation at record highs, it's important for policyholders to check in with insurers to make sure their policy’s dwelling coverage limits reflect current reconstruction costs. Otherwise, they may not have enough insurance to pay for a full rebuild after a major loss.
“More than half of U.S. homeowners are underinsured and do not have enough property insurance coverage to replace their homes in the event of a catastrophic loss,” says Friedlander.
Just 30% of insured homeowners have purchased more coverage or increased their existing coverage limits to account for rising inflation, according to a recent survey by the American Property Casualty Insurance Association, a trade group for insurance companies. This is despite the fact that the price of construction materials increased 44% from December 2019 to December 2021. 
How to prevent your home from being underinsured
As a general rule of thumb, you’ll want to review your policy at least once per year to ensure your coverage amounts are accurate. But given the unprecedented spike in replacement costs since last year, there’s a good chance your insurer will take a more proactive approach in the event you forget your annual checkup.
“Insurance companies and agents continually stress the importance of being fully insured with their policyholders,” Friedlander says. “In fact, many insurers are proactively adjusting policies at renewal by raising dwelling limits based on current replacement costs.”
However, insurer replacement cost calculations aren’t always accurate. Many home insurance policies come equipped with an inflation guard that automatically adjusts dwelling coverage limits to reflect current replacement costs. But with labor and construction costs increasing by the day, it may not matter if your renewal adjustment is accurate or not.
Homeowners also need to keep in mind that home reconstruction costs often skyrocket in areas impacted by natural disasters due to the surging demand for materials and labor. With wildfire and hurricane seasons in full swing, here are three additional coverages that can help prevent you from being underinsured:
1. Extended replacement cost coverage
Extended replacement cost coverage is an optional policy add-on that increases your policy’s dwelling coverage limit an additional percentage amount (usually 25% or 50%) in the event your home’s replacement cost exceeds the coverage limits in your policy. This add-on is especially valuable for homeowners in high-risk areas of the country that are experiencing higher rebuild costs due to both rising inflation and demand surge after natural disasters.
2. Ordinance or law coverage
Ordinance or law coverage is an additional coverage that increases your home insurance policy limits after a loss to comply with local building codes. For example, if local building codes require you to upgrade your home’s electrical and plumbing systems after a covered loss, this coverage could help cover the increased costs.
3. Flood insurance
A standard home insurance policy doesn’t cover water damage caused by flooding, so homeowners in at-risk areas will want to consider flood insurance to ensure they’re fully protected.
“Lack of flood insurance remains the largest insurance gap we see across the country,” Friedlander says. “More than 90% of U.S. catastrophes involve significant flooding, so you don’t need to live in a coastal area to sustain flood damage.”
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