I get it.
Real estate is filled with lots of exciting stuff, but insurance generally isn’t considered one of them. Insurance ranks right up there with property taxes… just another expense to throw on the pile.
But, as an Indianapolis real estate investor, insurance is VERY important. You hope you never need it, but you absolutely must ensure that you have the proper insurance in place.
Quite often, I get questions from some of our new investors that surround insurance. Generally, they ask:
“What type of insurance do I need as a Landlord?”
So, I thought I would spend some time discussing insurance for investment properties.
At the end of the day, there’s not a big difference between the policy you have on your personal home and the policy you’ll need for your rental property. And in many cases, you can use the same insurance carrier you currently use for your personal residence. This is especially helpful if you are converting your personal residence into a rental home.
TYPES OF POLICIES
Whether or not your home is going to be vacant for an extended period of time or if it is occupied will help you decide what kind of policy you will need as a landlord.
Landlords who will be living in the property and renting out a room or two, will have a different kind of policy that they can add to their regular homeowner’s policy. Usually, a short-term rental endorsement can be added to provide the landlord with extra coverage in the case of a claim or accident.
Real estate investors who will have a property that is vacant for more than 60 days will typically be recommended to have a cash value policy. Someone who flips properties and sells them or investors who are looking to rent out the home after completing a rehab project will have a policy that is for short-term use.
These policies won’t cover a lot and are usually more expensive than a policy for an occupied rental property because they are designed for those with short-term needs for the home.
For investors who already have an occupied property or who are looking for renters to move into their home, they will need a rental policy.
If you currently own the home and are wanting to change it into a rental, then you will need to switch your homeowner’s policy to a rental policy which in most cases will actually be cheaper.
When you are a landlord, you will have fewer possessions of your own within the home. For example, you might only own the appliances like the stove and refrigerator instead of all the furnishings, clothes, and other items, so your policy will be less expensive because you have less to cover.
The only time where it might not be cheaper to have a rental policy instead of a homeowner’s policy is if you are an Airbnb host because then, you will have to furnish the home and have more possessions that will need to be covered.
When it comes to a rental policy, there are three basic coverages you should be aware of
- Structural: Like the traditional homeowner’s policy, your rental policy will protect your home against damage caused by fire, lightning, wind, hail, and other covered perils. There’s nothing different about this coverage at all.
- Liability: All rental policies also come with liability coverage. A standard homeowner’s policy provides personal liability, but that liability would not cover Landlord associated risks that a Rental Dwelling Policy does. Now, in terms of liability, you need to consider the proper coverage limits seriously. A standard policy will generally cover any damages, injuries, and in some cases the legal fees if there’s a claim.
If you are a high net-worth individual, you might want to increase this coverage to match your net worth. In addition, if you hold the property under an LLC, the liability coverage should match the assets of the LLC.
Unfortunately, we live in a litigious society. Let’s say the Tenant falls down the stairs and is severely injured, or a furnace explodes and your Tenants are injured or even killed. Your liability coverage is there to protect you against severe financial loss.
- Lost Rents: Finally, a coverage unique to a rental policy is lost rents. If your home suffers a fire, for example, and the Tenants have to relocate, your insurance company will pay you for your lost rent during the vacancy. Generally, this coverage lasts for no more than one year.
HOW MUCH INSURANCE COVERAGE SHOULD I HAVE
It is recommended to get insurance that will cover the replacement of your property, so if there was a fire or any other kind of damage, then you can rebuild your home.
The amount of coverage you would need to rebuild in the case of damage to your property will depend on how big it is and should be based on the price per square foot.
Other than the replacement coverage option, you do have an alternative option to cover your property at cash value. However, this type of coverage is not recommended by insurance companies for many reasons.
Cash value coverage is only an option for someone who purchases their home in all cash, and is typically only used by investors who rehab or flip properties because this type of coverage is set up more for short term real estate investments.
However, if you bought your home in cash and are using the property for a long-term investment and would still like to cover it at cash value, there’s one thing you will need to consider.
If you choose cash value coverage and decide to walk away in the event your home is destroyed instead of rebuilding, then a lot of insurance companies will only pay out a certain amount of the coverage listed. This will be written in a clause within your agreement.
For instance, if a company states that they will only pay out 10% of what is covered in the policy when the property owner chooses cash value and decides to walk away from the property, then for a home that is worth $150,000 only $15,000 will be paid out.
OTHER INSURANCE CONSIDERATIONS
There are a few other items I wanted to mention about a Rental Dwelling Policy.
- Deductible: Consult your insurance agent or even a financial advisor, about the proper deductible for you. The amount of deductible you choose will greatly impact your annual premium. As you probably know, the higher the deductible, the lower the premium. Whether you choose a high or low deductible completely depends on your individual needs and wants.
- Tax Benefits: Unlike a standard Homeowners Policy, Rental Dwelling Policies are tax deductible. Insurance is considered part of your business expenses and you can deduct that cost accordingly.
- Insurance Score: Similar to a credit score, everyone also has an insurance score that changes based on a variety of items like claims, accidents, etc. Depending on how high your score is, you could receive a better policy. For people who have a significant other, you can run two quotes with each person listed first to see who has the best policy.
- Umbrella Policy: Having an umbrella policy can provide you with an extra layer of protection just in case you incur additional costs that aren’t covered by your liability. Typically umbrella policies aren’t too expensive, and they can help pay any court costs or lawyer fees you could have if there’s ever a claim.
DON’T FORGET RENTERS INSURANCE
Finally, as you consider insurance, remember to require Renters Insurance from any Tenant that you place in your property. This is very important coverage for both you and your Tenant.
Although it is frowned upon to pay for Renter’s Insurance for your Tenant, an incentive you can use to better ensure your Tenant’s are getting insurance is to offer a discount on something like rent when Tenant’s get Renter’s Insurance.
Again, while insurance isn’t necessarily an exciting topic, it’s a topic that you must address and address carefully. If you have any questions about insurance or general investment questions, please don’t hesitate to contact us.
Note: Special thanks to Elizabeth Marshall at State Farm for her contributions to this blog and to Ted King from Goosehead Insurance Agency for providing more insight on our “Why Insurance Matters in Real Estate Investing with Ted King” podcast.