Q

What is homeowners insurance and how does it work?

A

Homeowners insurance covers your home, personal belongings, and liability. If your house catches fire or you’re held liable for an injury, your homeowners insurance can help pay for those expenses.

Pat Howard 1600

By

Pat Howard

Pat Howard

Property and Casualty Insurance Expert

Pat Howard is a senior editor at Policygenius specializing in property and casualty insurance. His work has been featured on Property Casualty 360, Fatherly, MarketWatch, and more.

Updated October 8, 2021|3 min read

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Homeowners insurance pays you a lump sum when something bad happens to your home or personal belongings, like a fire, weather disaster, or break-in. If someone is accidentally hurt on your property and files a lawsuit, homeowners insurance can also help cover the cost of any legal or medical expenses. 

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Key Takeaways

  • A standard homeowners insurance policy is made up of six coverages that protect the structure of your home, your personal belongings, temporary living expenses after a disaster, and your personal liability

  • Every homeowners insurance coverage has its own limit of liability, meaning the maximum amount you can be paid out on a claim

  • Homeowners insurance is not required by law, but most mortgage lenders require it 

  • Your homeowners insurance rates are based on your the location of your house, it’s size and construction type, your credit score, and your deductible amount

What is homeowners insurance?

Homeowners insurance is financial protection for anyone who owns their home. If your house is damaged or destroyed by something unexpected, like a fire or hurricane, you can use your homeowners insurance to pay for repairs or a new house. Without homeowners insurance, you’d be left covering the costs out of your own pocket. 

There are several types of homeowners insurance policies that provide different levels of protection for your home and belongings. The most comprehensive ones are the HO-3 and HO-5 — these account for over 90% of single-family home policies. [1] But there are several other types of homeowners insurance policies for various property types and coverage needs.

Types of homeowners insurance

  • HO-1: The most limited policy for single-family homes, HO-1s aren’t offered by most insurance companies anymore

  • HO-2: A more common policy type with slightly better coverage than the HO-1

  • HO-3: Covers your home and belongings against most types of damage or loss — this is the most common type of homeowners insurance

  • HO-4: A policy type specifically for renters

  • HO-5: Provides the most comprehensive coverage of any policy type — this is the second most common type of homeowners insurance

  • HO-6: A policy type designed for condo owners

  • HO-7: A policy type designed for mobile or manufactured homeowners

  • HO-8: A policy type for older or higher-risk homes

How does homeowners insurance work? 

To keep your homeowners insurance policy active, you pay monthly or annual premiums, or insurance payments, to your insurance company. Premiums are generally paid directly from you to the insurance company or as part of your monthly mortgage payment. 

While these payments can add up, they’re a necessary part of keeping your home, belongings, and liability protected. A homeowners insurance policy provides three important functions: 

  • It covers your home and personal belongings: Homeowners insurance helps pay to repair or replace your home or personal belongings in the event they’re damaged or stolen. 

  • It covers your additional living expenses: Your policy also helps cover the cost of hotel stays, temporary rentals, and restaurant meals if your home suddenly becomes uninhabitable due to a covered disaster. 

  • It covers your liability: Homeowners insurance also provides liability protection in the event you’re legally responsible for injuring someone or damaging their property.

Genius tip

A standard homeowners insurance policy can help pay to repair or replace your property if your home or belongings are damaged by any of the 16 covered perils in your policy. Covered perils include fire, lightning, wind, hail, theft, vandalism, and several others. Damage caused by flooding or earthquakes is not covered by homeowners insurance and requires additional coverage.

What’s included in a standard policy?

A standard homeowners insurance policy is made up of the following six coverages, which all cover different things.  

Coverage typeWhat it covers
Coverage A: DwellingCovers the cost of damage to the structure of your house and any attached structures, like your garage or patio
Coverage B: Other structuresCovers the cost of damage to structures that aren’t attached to your home, such as a guest house or fence
Coverage C: Personal propertyPays to repair or replace your personal belongings in case of damage or theft
Coverage D: Additional living expensesPays for relocation expenses, restaurant meals, and temporary lodging while your home is being repaired or rebuilt
Coverage E: Personal liabilityCovers you and your assets from expensive lawsuits if you’re held liable for another person’s injury or property damage
Coverage F: Medical paymentsPays for guests’ medical expenses, regardless of who is at fault

If your home is damaged or burglarized or you’re sued because of an accident, consult your policy to see if the loss is covered. Keep in mind that each of your coverages come with a limit of liability, or the maximum amount the insurer will pay out for a loss. 

→ Learn more about what homeowners insurance does and doesn’t cover

How are claims paid out?

The amount your insurance company reimburses you on a claim will depend on the level of homeowners insurance policy you have. 

There are four levels of coverage. 

  • Actual cash value: Pays for the depreciated value of your home or personal belongings if they’re damaged or stolen. This is the cheapest level of coverage but it also provides the lowest claim reimbursements.

  • Replacement cost: Pays for the replacement value of your home or personal belongings without deducting for depreciation. This is more expensive than actual cash value, but it provides larger reimbursements on claims.

  • Extended replacement cost: Pays an additional amount beyond your policy limits if the damage or loss exceeds your policy limits. Extended replacement cost increases your limits an additional percentage, like 20% or 50%.

  • Guaranteed replacement cost: Pays out whatever it costs to rebuild your home. This is the most expensive level of homeowners insurance coverage, but it provides the most comprehensive level of coverage. 

If your house is damaged in a bad storm, or a guest is injured on your property and files a lawsuit, you can file a claim with your insurance provider who will pay out for the incident if it's covered. 

Filing a claim is how you put your home insurance policy to work — you’ll show your home insurance company evidence that your home was damaged or your belongings were stolen, and they’ll determine the value of your loss and then reimburse you.

→ Learn more about how to file a homeowners insurance claim

Genius tip

Before paying you for a claim, your insurance company will require that you meet your policy deductible. This is the amount you’re responsible for paying on each claim before your insurance kicks in. 

Is homeowners insurance required?

Although homeowners insurance is not required by law, most lenders require proof of homeowners insurance before extending you a loan. If your home is in a high-risk floodplain, your lender may also require you to buy flood insurance.

Your bank or loan servicer may refer you to a specific local agency or insurance company to save you time, but be sure to compare policy options from at least three different insurance companies. To give yourself time to compare rates and coverage options, start shopping around for home insurance at least three weeks before your closing date. 

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How much does homeowners insurance cost?

The average cost of homeowners insurance in the U.S. is $1,249, according to the National Association of Insurance Commissioners. [2] Your homeowners insurance company will look at multiple factors when determining the cost of your policy, including:

  • Location: If you live in a state or ZIP code at high risk of natural disasters or property theft, that will impact your insurance rates.

  • Home construction type: If your home is constructed with materials that are more prone to damage or expensive to replace, like a log home or a house with antique features, that can also impact your homeowners insurance costs.

  • Age of your home: Older homes generally cost more to insure than newer homes.

  • Deductible: The higher you set your policy deductible, the lower your home insurance rates will be. 

  • Credit score: Insurers will also check your credit score to determine your financial risk. If you have a higher credit score, you’ll pay lower rates.

  • Claims history: If you’ve filed claims in the past or live in an area with a high number of home insurance claims, you’ll pay more for home insurance.

  • Risks on your property: Insurance companies view pools, trampolines, and certain breeds of dogs as high risk since they attract children and can all lead to injury. If you own one of these, it can impact your rates.

→ Learn about the cost of homeowners insurance in each state

How to get homeowners insurance

Homeowners insurance can be purchased in one of two ways: through a specific company or through an independent agent that offers policies through multiple companies. 

To ensure you’re getting the right amount of coverage at the best rates, consider comparing quotes from at least three insurance companies through an independent insurance marketplace like Policygenius, where an expert can help you choose coverage amounts and pick the best policy.

You can shop for homeowners insurance in six easy steps:

  1. Learn about how much coverage you need

  2. Get familiar with home insurance policy lingo

  3. Gather information about your home

  4. Compare home insurance quotes

  5. Choose your policy

  6. Finalize your policy details  

→ Learn more about the six steps to buying homeowners insurance

Frequently asked questions

What’s the difference between homeowners insurance and mortgage insurance?

The two are sometimes mistaken for one another, but homeowners insurance and mortgage insurance are two entirely different types of financial protection. Homeowners insurance protects the borrower, while mortgage insurance protects the lender. Mortgage insurance is typically required by lenders if you make a down payment of less than 20%. The lender obtains mortgage insurance on your behalf, and you either pay upfront at closing or incrementally as part of your monthly mortgage payment. Once you’ve reached 20% equity in the home, you’re eligible to have mortgage insurance canceled.

What is the 80% rule in homeowners insurance?

Most lenders require that borrowers insure their home for at least 80% of its true replacement cost, or the amount it would cost to rebuild the home from the ground up. Replacement cost is not the same thing as the market value or purchase price of the home. The 80% rule also applies to how you’re paid out on a claim. If your house is insured for less than 80% and you file a dwelling coverage claim, your insurer will only pay out for the actual cash value, or depreciated value of the home.

Is it better to pay for homeowners insurance monthly or annually?

This likely depends on how financially flexible you are, but annually is usually the way to go if you can afford it. Just about every insurer offers a significantly reduced rate if you pay for homeowners insurance upfront. If you pay annually but decide to switch insurers or cancel your coverage in the middle of your policy term, the insurance company will reimburse you for any unused premiums.

How does homeowners insurance work for a condo?

If you own a condo, you’ll likely need to insurance it with an HO-6 condo insurance policy, not the HO-3 or HO-5 homeowners insurance described in this article. The amount of condo insurance you need generally depends on your HOA’s master policy. Master policies usually include some amount of structural coverage for each individual unit. For that reason, condos generally don’t need as much dwelling coverage as single-family homes. Be sure to check what your master policy already covers before taking out your own condo policy.

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Homeowners Insurance

Is homeowners insurance legally required?

No, you can legally own a home without homeowners insurance. However, if you’re taking out a mortgage on a house, your lender will likely require proof of homeowners insurance coverage.

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How does homeowners insurance work?

Homeowners insurance is financial protection for your home, personal belongings, and other assets. It also covers legal and medical expenses if you’re held liable for an accident.

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