One of the most common of American dreams is home ownership, which has been challenged by the economy over the past several years.
Over the years, we have all heard that the three most important factors in choosing a home are location, location, location. Many of our customers have been fortunate enough to be in the financial condition to consider purchasing a secondary or vacation home. Never is the location factor more critical than when purchasing a secondary home. However, consider other important factors when entering the secondary home market, including the insurability of the home. The unique risks involved with insuring these properties is what will be addressed today.
The most popular geographic areas to invest in a secondary home are along America’s coastal regions, scenic rivers and lakes, or in mountainous regions. Focusing on the secondary coastal home markets, the primary challenges insuring these homes include:
- Type of ownership, or named insured
- Use of the property
- Liability exposure
- Market value versus replacement cost
- Personal property
- Carrier appetite and capacity.
Most of the aforementioned regions will have several of the same risk management issues and each will have some unique to their locations. While mountain and lake regions may face unprotected fire districts, coastal and river areas will face flood prone risks.
Read Right from the outset of purchasing a second home, the issue of the named insured pops up. We see many instances of friends or relatives looking to jointly purchase a property. Often they are mistakenly advised to form a Limited Liability Co. (LLC) and place the property in the name of the LLC. We find that this limits the number of carriers who accept this form of ownership. It is important to advise local attorneys and real estate agents of this dilemma and explain to our prospective insured that few markets will be available to an LLC, and could potentially cause higher insurance rates.
Paramount to all other issues is the use of the property. Will the owners purchase a property for their own use or will they rent the property to others? Often they do both, renting out their home for certain times of the year and using it themselves for the balance of the year. Will there be a time when the property will be left vacant or unoccupied during the year? Another situation exists where the home is purchased for investment purposes and rented out year-round. Any of these scenarios require different types of policies to properly protect the insured.
Ensure that the insured understands the importance of disclosing the use of their property when applying for insurance. The pitfalls of owners misclassifying how they will use their homes become clear once a claim occurs. Insurance companies are not quick to pay claims on an HO3 policy when the home is being rented without their knowledge. When claims are questioned or denied, the insured will be quick to point a finger at the agent with the phrase, "My agent never told me that." This is where your E&O policy comes into play, and your written documentation is very important as always.
Also consider the length of time the property will be unoccupied. Most secondary homes are unoccupied for several weeks or even months at a time each year. In our coastal community, the most common unoccupied times are during the colder months, November through March.
Parallel to that, the most common claims we have during the winter are due to frozen pipes and the resulting water damage. Keep in mind that in most of these cases, if the home’s plumbing was not professionally winterized, or if a minimum required temperature in the home was not maintained, there will be no coverage due to freezing of pipes.
To help cover against an E&O exposure, send a reminder to insureds to have their water turned off and professionally winterized during the time that their home is unoccupied. Recommend easy turn on/turn off water systems and heat monitors to help prevent claims. Anything you can do to make sure your insureds are prepared for these situations will go a long way in protecting both your agency and your customers.
The market value versus replacement cost issue is another issue. In our region, the value of the land is often two to three times higher than the value of the home. Our average sales price on Long Beach Island is in the range of $500,000 to $1 million, with oceanfront and bayfront properties soaring even higher. At least 60 percent to 70 percent of the value is in the land alone. Mortgage companies may attempt to require insurance in the amount of the mortgage, which is regularly higher than the actually replacement cost of the homes.
The proper advice and guidance from an agent will solve this problem, preventing an insured from overpaying for too much coverage, and help the customer understand why he doesn’t need that much insurance, and what his policy covers. Making sure to provide accurate replacement cost estimates of the structure and providing those estimates to the mortgage company is usually enough for them to accept the proper coverage. In some cases, we will even provide a copy of our state statute showing that mortgage companies are not allowed by law to require a homeowner to over insure their property.
Other significant aspects of insuring a secondary home include liability and personal property coverages. In many cases there are different options and limitations on these coverages for a secondary home. Options may reduce the cost for insureds. For liability, it is possible to obtain property coverage on the home without liability, and extend the liability from the insured’s primary home policy. This can give a significant reduction in premium. There also are situations where liability is not available as part of a homeowners insurance package, and a stand-alone liability policy may be needed to properly insure the customer.
Double-check how much, if any, contents coverage the insured needs. In the case of a rental home, the insured may not need contents coverage at all, therefore drastically reducing the cost if it can be removed. In other situations, there may be a need for increased contents coverage, or scheduled valuable items, such as fine arts or antiques. Many carriers who insure coastal secondary home do not have the option to schedule valuable items such as these, therefore to properly cover your insured there will be a need for either a standalone valuable items policy, or the ability to schedule these items onto their primary home’s policy.
A big challenge is the carriers’ appetites or capacity issues. It has become common in the past year or two that companies are reducing the amount of coastal risks they take on. There have been some companies who have even non-renewed all coastal properties, and others who have "reached coastal capacity" and are no longer writing anything new. Continue to search for new markets for these properties. Keep clients well informed of the volatility of the coastal secondary market, and reassure them that you will continue to have options for their insurance needs as the market changes.
The benefits and pleasure of owning a secondary or vacation home can be very rewarding. It is the responsibility of an agent though to point out the unique insurance challenges a homeowner will face. Staying prepared for an ever-changing market such as this, and keeping your clients informed and educated are a couple of the main keys to building a profitable book of secondary home business.