Risk management: Why you may need umbrella liability insurance
Legal Concerns-- Article by Jason Van Steenwyk Jan 31, 2017
2017 Article (with updated addenda)
Most homeowners understand that they need a homeowners insurance policy to protect what is often their most important personal asset. But if you own investment properties, a standard homeowners insurance policy is probably not going to cut it. In fact, owning a homeowners insurance policy on a rental property may be worse than not owning insurance at all. Why? Not only will your standard homeowners insurance policy not protect you, you’ll also be paying premiums for the non-coverage the whole time!
Here’s the scoop: Homeowners insurance policies are standardized, and they’re designed and priced to provide protection for owner-occupants. As a group, owner-occupants have a very different risk profile than renters. Too many novice or accidental landlords every year try to file a claim involving their rental property with their homeowners insurance carrier, only to come away disappointed—and sometimes financially devastated. If you are insuring a rental property with a homeowners insurance policy, and the insurance company figures it out (which isn’t hard to do), they can and will deny the claim.
Homeowners vs. Landlord Insurance
Investment properties need to be insured differently than owner-occupied properties for a variety of reasons:
Renters can and should carry renters insurance.
Rental housing is often vacant for weeks or months at a time—potentially attracting pests, vandals, vagrants, and squatters, each of which can potentially damage a property. In the event of a vagrant or squatter, the individual could get injured on the property, and the plaintiff’s lawyers could sue you. If the property is not properly insured as both an investment property and a vacant property, you could be exposed to that liability.
Homeowners insurance policies don’t provide coverage for “loss of rent,” but landlord policies frequently do provide that benefit.
What to Look for in a Landlord Insurance Policy
As with any insurance contract, definitions are essential. Tens of thousands—even hundreds of thousands—of dollars could ride on the exact wording of a clause in the contract, or how it’s defined for the purposes of the insurance contract.
There are three basic landlord insurance forms:
DP-1: Basic budget coverage that covers common occurrences like renter vandalism and fires. Most of these policies are actual cash value, rather than replacement value policies. The carrier will subtract depreciation before issuing a benefit. See the replacement cost section below.
DP-2: Broader coverage for named perils. Check the policy for the list of perils; perils not specifically named will generally not be covered.
DP-3: Also called “open peril,” this form covers all perils not specifically excluded by the policy.
Common exclusions include:
Flood damage or water damage covered via the National Flood Insurance Program
Damage from earthquakes, sinkholes, and earth movement
Power failure
Neglect
Acts of war or terrorism
Nuclear hazards
Intentional loss
Mold
A DP-3 policy doesn’t automatically pay benefits for damages due to theft or on damage to contents. But you can add contents coverage, which may be worth considering, especially if you are renting furnished dwellings.
The DP-3 policy is the most common choice for landlords renting one- to three-family properties that are not owner-occupied. Buildings with more than three families are often covered via commercial insurance rather than landlord insurance. You can also get coverage tailored for resort properties, as well as short-term rentals—be sure to tell your agent if you plan to engage in these.
Landlord Insurance Clauses
Here are some of the key landlord insurance clauses to be aware of:
Liability Insurance
Landlord insurance typically comes with much higher limits on liability coverage than homeowners policies. Landlords are frequently sued by tenants for all kinds of reasons, both legitimate and illegitimate. Your landlord liability insurance will typically cover the amount of judgments and settlements up to the liability limit in the policy.
Your landlord insurance policy generally also includes language obligating the insurance company to assist with the cost of your defense, and they may even provide an attorney for you. This is a tremendously valuable benefit—and it would vanish if you were trying to cover your rental property with a standard homeowners policy.
Guaranteed Replacement CostIf your policy has a guaranteed replacement cost clause, then you are guaranteed reimbursement for the actual cost of getting a damaged or destroyed property back into service—even if materials and labor cost much more than the amount you were originally insured for.Some carriers have gotten away from issuing this policy because it transfers more risk from the customer back to the insurance company. A guaranteed replacement cost policy may well be worth the extra premium it costs—especially if you’re planning on owning the property for a long time. Fix-and-flippers may choose to save the extra premium since they know the costs better than most, and they’re not as exposed to price swings over a long period of time.Most of the time, landlord insurance policies can be modified to suit your specific needs. For example, if you have an older property and rebuilding it would require artisanal materials and construction techniques, you can often get additional coverage to reflect the additional repair costs.The alternative is a policy that pays the fair market value for destroyed or damaged property. That is, the carrier will calculate the value of the damage or destruction, then subtract depreciation from their eventual award to you. So if your property needs a new roof thanks to a thunderstorm, and the roof will cost $30,000 to replace, but you’ve owned the roof for 10 years, the company may subtract half of the amount for depreciation. You’ll then receive a check for about $15,000, minus your deductible, to pay for a $30,000 new roof.These policies provide less protection, but they also sell at a lower premium. If you get a fair market value policy, you should be aggressively building up reserves against losses over the years so that when the need arises, you’ll have the cash ready for your share of the damages.
Loss of Rents
As a landlord, the stream of income from your rental properties is an important asset. If it’s interrupted, you could suffer significant financial harm. If your property is damaged or destroyed and you lose a tenant, landlord insurance policies provide loss of income protection—typically for up to twelve months.
A homeowners insurance policy wouldn’t cover lost income, of course, because owner-occupied homes don’t generate income to the owner. It might spring for a hotel or apartment while your damaged home is repaired, but you don’t need that—you need the income, provided you can get the protection at an acceptable premium. If you don’t rely on this income, you may choose to skip this coverage and retain the risk in order to save on premiums.
Loss of Use
Your landlord insurance policy may also provide funds to help your tenants rent temporary housing while your investment property is repaired. This way you won’t lose a valuable tenant.
Unit Rented to Others
If you live in the same building as your tenant, you may not need to get a whole new insurance policy. You can get an endorsement on your existing homeowners insurance policy covering liabilities arising from your tenant and your rental. However, you’ll likely need a separate landlord insurance policy if you’re renting a separate unit or structure.
Other Structures
A homeowners insurance policy will usually provide some coverage to structures like garages, carports, and sheds, up to 10 percent of the total coverage amount. Landlord insurance will require you to add coverage for these structures via a rider or endorsement; it won’t typically be covered automatically.
Personal Property
This kind of coverage is not typically included in a landlord insurance policy, although a DP-3 policy may include coverage for things like major appliances. For the best coverage, require your tenants to carry their own renters insurance.
How Much Does Landlord Insurance Cost?
Naturally, all of this extra protection isn’t free. According to information from the Insurance Information Institute, you can expect to pay about 25% more for a landlord insurance policy than you would to insure the same home as an owner-occupant. The average annual premium for most landlord insurance policies is about $1000 per year (increased since 2017).
(Addenda suggested by Google:Gemini:
1. DP-3 Policy: While the DP-3 policy was common, it's worth noting that insurance markets and policies can change over time. It's advisable to consult with an insurance agent to get the most up-to-date information on the best policy for your specific needs.
2. Short-Term Rentals: The insurance landscape for short-term rentals has evolved rapidly. While specific policies for short-term rentals are available, it's crucial to check with your insurance provider to ensure adequate coverage, as traditional landlord policies may not fully cover the unique risks associated with short-term rentals.
3. Guaranteed Replacement Cost: The availability of guaranteed replacement cost policies can vary by insurer and location. It's recommended to inquire with multiple insurers to understand their specific offerings and any limitations.
4. Loss of Rents and Loss of Use: While these coverages are essential, it's important to review the policy limits and any exclusions that may apply. Some policies may have specific limitations on the duration of coverage or the types of losses that are covered.
5. Personal Property: While it's generally advisable for tenants to have renters insurance, some landlord policies may offer limited coverage for personal property, especially for items provided by the landlord, such as appliances or furniture.
6. Insurance Costs: Insurance costs can fluctuate based on various factors, including location, property value, coverage limits, and the insurer's risk assessment. It's recommended to obtain quotes from multiple insurers to compare prices and coverage options.
Additional Considerations:
Cybersecurity: Given the increasing prevalence of cyber threats, consider adding cybersecurity coverage to protect against data breaches and other cyber-related risks.
Climate Change: As climate change impacts weather patterns, it's essential to assess your property's vulnerability to natural disasters and adjust your insurance coverage accordingly.
Emerging Risks: Stay informed about emerging risks, such as wildfires, flooding, and social unrest, and discuss with your insurance agent how to mitigate these risks and obtain adequate coverage.
By staying informed and consulting with an insurance professional, you can ensure that your landlord insurance policy provides comprehensive protection for your investment.