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September 26, 2022
California has been engulfed in extreme drought conditions in recent years, and as a byproduct of the dry environment, wildfire activity has flared up dramatically. At this point in the summer of 2022, seven of the eight largest wildfires in California’s history have occurred within just the past five years. There’s no clear sign that things can turn around and the reality is that destructive large-scale wildfires have now become a regularly expected occurrence.
The insurance marketplace has responded swiftly to the wildfire trends and the resultant insurance claims. Some of the largest insurance companies have either pulled back from the California market or pulled out entirely, while those that remain have increased premiums by large margins across the board. Even those Californians who don’t live in the most hazardous areas are experiencing increased premiums as we all “share the risk” of higher wildfire risk.
It’s now more important than ever to review your homeowners insurance policy options closely—and well ahead of your renewal date. Many of us will need to find alternative solutions for coverage and those living in high-risk areas may find the options to be very limited.
There are a multitude of different insurance options out there ranging from those that focus on the higher-end market to the ones that focus on the middle market masses, as well as the California FAIR Plan and the unregulated non-admitted market.
High-End Insurance Companies
At the upper end of the market are insurance companies that specialize in providing insurance to wealthier individuals and families with higher priced homes and other types of property such as autos, boats, art, jewelry, wine and so on. These companies include AIG, Chubb and PURE Insurance along with a handful of others. Customers may only access these companies via an independent insurance broker who represents the policyholder’s best interests when negotiating coverage and pricing with these insurance carriers.
Middle Market Companies
One step down from the high-end insurance carriers sits a group of very well-known insurance companies that focus on serving the middle market masses. Carriers like State Farm, Farmers Insurance Group, Progressive, GEICO, Allstate and USAA all reside within this group. Rather than relying on an independent insurance broker, customers work with agents of these insurance companies directly to place insurance policies.
California FAIR Plan
The California FAIR Plan has been established to provide homeowners insurance coverage to those who are unable to obtain policies through the traditional insurance marketplace. This is a “last resort” option for those who have no other offers. Policies under the California FAIR plan provide significantly trimmed down coverage at relatively high premiums when compared with the traditional market. Coverage through the FAIR plan is accessed through an independent insurance broker and should only be considered among the last possible options.
There are also non-admitted insurance policy options that are available in the marketplace, typically coming out of a Lloyd’s of London syndicate. These non-admitted companies are not regulated by the California state insurance department. Therefore, the policy terms and rates charged have not been approved by any regulatory body. A non-admitted policy will also have no financial backing in case of insurance company insolvency, whereas an admitted insurance policy will be backed by the California Insurance Guarantee Association (also known as CIGA), which will potentially step in to pay claims (at least partially) in place of an insolvent insurance company. This is yet another last-ditch option to be considered only when all other options have been exhausted.
The details of a homeowners insurance policy are important. By understanding the details, policyholders can be better equipped to choose a policy that makes the most sense for them. Let’s start by asking the most basic question: how much will the insurance company pay?
The most important provision in a homeowners insurance policy is how the value of a loss will be determined by the insurance company. There are three valuation options to consider, each providing a different level of protection.
Replacement Cost – The cost to replace the property today with materials of similar quality.Actual Cash Value –The replacement cost minus depreciation.Extended Replacement Cost – The cost to replace the home even if the replacement cost exceeds the policy limit, usually up to 25% above the policy limit.
Replacement cost coverage is the most common valuation provision found in homeowners insurance policies. It’s the amount it would cost to rebuild a destroyed (or damaged) home exactly as it was originally constructed. Depreciation is not a factor in the cost.
This all sounds great, but keep in mind that the insurance amount is also subject to the policy’s limit. During the time of home ownership, inflation must be accounted for, and replacement cost coverage puts the responsibility squarely on the policyholder to ensure that the policy limit is adjusted to keep up with inflation.
Actual cash value provides the least amount of insurance for the lowest premium. Despite the premium savings, we believe actual cash value policies should be avoided. The claims experience is likely to be less favorable, with the looming potential of a negotiation with the insurance company to determine the actual cash value at the time of loss. The last thing any of us wants to do is have a disagreement with our insurance company, especially if it could result in litigation down the road.
Extended replacement cost provides the most insurance coverage and predictably comes with the highest premium. In exchange for higher premiums, policyholders not only get the most protection but also some peace of mind that the insurance amount will be sufficient to cover even the most severe damage.
Regardless of the type of coverage, with inflation currently at generationally high rates, it’s important for all Californians to make sure they carry sufficient amounts of insurance coverage. In all parts of California, the cost to rebuild a home has gone up significantly while the risk of a home being damaged by fire is as high as it’s ever been.
The opaque and seemingly complex insurance landscape can be difficult to navigate and those facing challenging renewals may feel that there’s a distinct lack of viable options. Helping clients work through their homeowners insurance renewals is now a much more prominent item on our agendas than in the past. We’ve worked with many clients through situations in which the options were both in short supply and expensive. What we found to be true in all those situations is that it pays to do the work to uncover every possible stone. In certain cases, an option was ultimately found that wasn’t initially presented or considered yet turned out to be the best choice.
If you find yourself dealing with a challenging insurance renewal situation, don’t hesitate to reach out to your advisor at Cerity Partners. We can help review all your potential options to find the solution that works best in this difficult environment.
Cerity Partners LLC (“Cerity Partners”) is an SEC-registered investment adviser with offices in throughout the United States. Registration of an Investment Advisor does not imply any level of skill or training. The foregoing is limited to general information about Cerity Partners’ services, which may not be suitable for everyone. You should not construe the information contained herein as personalized investment, insurance, tax, or legal advice. There is no guarantee that the views and opinions expressed in this presentation will come to pass. Before making any decision or taking any action that may affect your finances or your company’s finances, you should consult a qualified professional adviser. The information presented is subject to change without notice and is deemed reliable but is not guaranteed. For information pertaining to the registration status of Cerity Partners, please contact us or refer to the Investment Adviser Public Disclosure website (www.adviserinfo.sec.gov). For additional information about Cerity Partners, including fees and services, send for our disclosure statement as set forth on Form CRS and ADV Part 2 using the contact information herein. Please read the disclosure statement carefully before you invest or send money.
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Peter is a Principal based in the Silicon Valley office. He provides investment management and financial planning advice to individual and institutional clients. In this...
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