Miranda is a financial writer and avid podcaster with nearly two decades of experience contributing to major outlets, including Forbes, The Hill, and NPR.
3+ years producing insurance and personal finance content
Main architect of the Insurify Quality Score
Courtney’s deep personal finance knowledge extends beyond insurance to credit cards, consumer lending, and banking. She thrives on creating actionable content.
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The 80/20 rule is an insurance industry standard that stipulates you should insure your home for at least 80% of its replacement cost.[1] An insurance company might cover less than the full claim amount you make against your policy if you don’t adhere to this rule.
If you make renovations that increase the home’s value, it’s important to adjust the amount of insurance coverage you have. Here’s what you need to know about the 80/20 rule and how it works with your homeowners insurance policy.
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The 80% rule for home insurance
The 80% rule is a threshold for how much coverage you should buy if you want the insurance company to fully cover replacing your home.
When you purchase a house, your home insurance policy protects against the risk of loss due to a natural disaster, vandalism, and other hazards or certain activities. Home insurance can also cover medical care for people who get injured on your property. You might not be able to afford repairs or the total replacement cost of your home without the help of a homeowners insurance company.
For Example
If your home is worth $400,000 at current prices, you need to buy coverage of at least $320,000 if you want full coverage on a claim you make. This is sometimes called the co-insurance clause.[2]
If you don’t buy home insurance for at least 80% of the home’s replacement value, your insurer might not fully cover repairs or costs when you file a claim.[3] Let’s say a storm damages your home and it costs $50,000 to repair. If your home is worth $400,000 and you have $300,000 in coverage, you don’t meet the co-insurance requirement of $320,000.
Even though you don’t have to worry about the home’s replacement value in this case, you still won’t get full coverage for your claim. The insurance company will prorate how much it’ll pay.
Let’s use the following scenario to illustrate how costly not following the 80% rule can be:
Home purchase price: $500,000
Length of ownership: 10 years
Replacement value today: $575,000
Amount of homeowners insurance: $400,000
Deductible: $2,500
When you bought your home, you had enough insurance to meet the 80% rule. Today, the home’s replacement cost value is higher, so you’d need $460,000 in coverage to comply with the rule. If a covered event causes $200,000 in damages, the insurance company would only cover $171,413. That leaves you responsible for nearly $30,000, including your deductible.
It’s important to think about the long-term potential replacement cost as well as the shorter-term costs of higher premiums.
How to calculate a payout if you don’t follow the 80% rule
To calculate how much to pay out in a claim for a homeowner that doesn’t follow the 80% clause, the insurance company will use a formula to multiply the cost of the damage by the amount of coverage you have ($50,000 X $300,000) and divide it by the amount of coverage your homeowner’s insurance policy should have ($320,000). In this example, the total comes to $46,875. Then the company will subtract the deductible. If you have a deductible of $1,500, the company will pay $45,375.
If you don’t follow the 80/20 rule, in this case, you’re paying $4,625 out of pocket rather than just the $1,500 deductible. When buying a homeowners insurance policy, you should keep this in mind since it could cost you even more later.
Your premiums could be slightly higher when you add more insurance coverage. But paying more for insurance today might be less expensive in the future if you don’t have enough insurance to pay for repairs.
Some factors you should consider when calculating your replacement cost and how much insurance you should buy include:
Whether home prices have increased in your area in response to the real estate market
If you’ve made capital improvements to the house, including updating an older home or the home’s structure
Potential inflation in the cost of similar materials to rebuild your home; though some insurance companies offer inflation guards in policies to combat rising consumer prices[4]
Market value vs. replacement value
It’s important to note that the market value of your home is different from the home’s overall replacement cost. The home’s total replacement value is likely to cost more since construction costs tend to rise over time.[5] Your home might be worth $400,000 now, but the money it takes for the new replacement cost of your home could be $500,000.
Your homeowner’s insurance policy should reflect the total replacement cost of $500,000, or $400,000 (80% of your home’s replacement value), rather than the $320,000 in coverage you might assume you need based on the market value of your house.
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Risks of skipping the 80% rule
If you fail to insure your home for at least 80% of its replacement cost, the insurance company might not cover the total cost of the repairs incurred.[3]
Whether you’re buying your first home or you’re on your third home, you need to weigh the risks of insuring less than 80% of your home’s value against the costs of paying a larger share out of pocket for covered damages.
You might pay less in premiums if you don’t get the right coverage to meet the 80% rule, but you could end up paying much more later — especially if your home’s overall replacement cost increases. Keep in mind that your deductible is another out-of-pocket cost.
Good to Know
You can still abide by the 80% rule and set a higher deductible to help reduce premiums. Run the numbers with the homeowners insurance company to see if you can use an emergency fund to cover a higher deductible and save money on the premium in order to make sure you have enough coverage for a major event.
Making home improvements or renovations can also affect the actual cash value to replace your home. Updating your home can make a difference, and that could lead to a violation of the 80% rule.
If you plan to make upgrades, talk to your insurer about the potential impact. You might need to increase your home insurance coverage to properly insure your home’s value. Make sure you have enough coverage, and include the value of your renovations and improvements in your calculations.
When considering whether you need to worry about the 80% rule, here are answers to some common questions about homeowners insurance.
What happens if you don’t meet the 80/20 rule in home insurance?
If you fail to meet the 80/20 threshold, your insurer may not cover the total cost of the repairs. Instead, you’ll only receive insurer support on a prorated amount. This places more of the burden on you.
What does homeowners insurance cover?
Standard homeowners insurance policies usually cover the cost to repair your home if it sustains damage due to certain natural disasters and other issues. Additionally, it usually covers personal property theft. Not everything is covered, though, so it’s important to read your policy documents and make sure you understand what your policy covers.
How much does homeowners insurance cost?
Homeowners insurance costs an average of $2,724 a year. However, your premiums depend on a number of factors, including the state you live in, the types of coverage, how much coverage you want, and whether you’re eligible for discounts.
Who should buy homeowners insurance?
In the United States, most mortgage lenders require some home insurance coverage.[6] However, you should consider what your policy covers and potential financial risks to decide whether you should adjust your coverage. It’s a good idea, in general, to consider buying insurance to protect against the total loss of your home.
How often should you reconsider coverage amounts?
Consider how much homeowners insurance you should have every year. Look at whether your home has increased in value and if you’ve made renovations. The best way to determine if you need more coverage is to review the most common things that could affect the replacement value of your home, including changes in inflation and building costs.
III. "Can I own a home without homeowners insurance?."
Miranda Marquit Insurance Writer
Miranda Marquit, MBA, is a freelance financial writer covering various markets and topics since 2006. She has contributed to numerous media outlets, including Forbes, TIME, The Hill, NPR, HuffPost, Yahoo! Money, and more. Her work has been syndicated by MSN Money, Marketwatch, Credit.com, and other publications. She has written about insurance topics for Clearsurance, HealthCare.com, and various other websites. She is also an avid podcaster and co-hosts the Money Talks News podcast. Miranda has a Master’s Degree in Journalism from Syracuse University. Connect with her on LinkedIn.
3+ years producing insurance and personal finance content
Main architect of the Insurify Quality Score
Courtney’s deep personal finance knowledge extends beyond insurance to credit cards, consumer lending, and banking. She thrives on creating actionable content.
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