Understanding Home Insurance and the Risks of Underinsurance
Many homeowners are unaware that their homes may be underinsured, according to Fei Huang, an associate professor in the School of Risk and Actuarial Studies at the University of NSW Business School in Sydney/Gadigal. Dr. Huang highlights that a home is often someone’s most significant financial asset, and being underinsured can lead to serious financial difficulties if something goes wrong.
A survey by the Australia Institute last year found that 15% of homeowners said their home was underinsured. However, many people might not even know whether they are underinsured, says Daniel Graham, an insurance expert with consumer group Choice.
What Does Home ‘Underinsurance’ Mean?
If your home is underinsured, it means your insurance policy won’t fully cover the cost of rebuilding, repairing, or replacing it, according to the government’s MoneySmart website. Home insurance typically covers damage or loss caused by events such as natural disasters, theft, and accidents.
The maximum amount an insurer will pay under a home or home and contents insurance claim — also known as the “sum insured” — should not be less than those potential costs. According to the Insurance Council of Australia, “underinsurance occurs when a home insurance policy’s sum insured falls short of what it would actually cost to repair and rebuild a property.”
MoneySmart explains that a “coinsurance” or “averaging” clause in your policy can also affect how much an insurer will pay out if you are underinsured. These clauses limit the insurer’s liability on claims to the proportion of the replacement value that has been insured. For example, if you’re only insured for 67% of your home’s value, the insurer might only pay 67% of the amount you are insured for if it was destroyed.
Are More Homes Really Underinsured?
The underinsurance problem is being exacerbated by trends outside the industry, the Insurance Council of Australia says. Construction costs have risen more than 40% since 2020, meaning some homeowners’ coverage may no longer reflect current rebuild costs.
MoneySmart states that home and contents underinsurance is “very common” in Australia and “can creep up on you.” This is often due to homes and contents not being insured at replacement cost, Mr. Graham explains. Replacement cost refers to the amount it would cost to replace everything new at today’s price. Instead, policies might reflect an “outdated value.”
Other policyholders may have home insurance but no contents insurance or be uninsured for specific scenarios like flood or fire, he says. Dr. Huang notes that rising premiums and inflation have likely left more people underinsured. She recommends checking insurance costs when buying a home, especially in high-risk areas.
How to Tell If You Have the Right Amount of Cover
The Insurance Council of Australia advises reviewing the amount your home is insured for annually and always after renovations. Use your insurer’s online rebuild calculator, ensure your policy accounts for demolition, professional fees, and current building code compliance, and speak to your insurer or broker if you have any doubts.
When calculating contents insurance, Mr. Graham suggests going from room to room, listing items. There are substantial items like furniture and appliances, but also smaller things that add up, such as clothing. He recommends reassessing your home and contents insurance at least every few years, ideally when your renewal notice arrives.
Remember to consider any renovations and additions, such as installing air conditioning. Mr. Graham and Dr. Huang both recommend using the online calculator tools insurers provide. “It’s definitely worth having a look at those, but also think about your own possessions and property and how much it might cost to replace them,” Mr. Graham says.
What Risks Come With Underinsurance?
The biggest risk is if you experience a total loss and need to rebuild, Mr. Graham says. “The insurer might say the amount you’ve insured your building for isn’t enough to replace everything new, so we’re going to offer you a cash settlement. You’re left organising construction and you’re also left substantially out of pocket.”
In this situation, you might need to reduce the size or standard of your home or sell the land and buy in a more affordable area. While some may think there’s an advantage to being underinsured due to lower premiums, Mr. Graham and Dr. Huang don’t believe it’s worth the risk. Dr. Huang says unless you’re very wealthy, you probably cannot absorb the losses that home insurance protects against.
As Mr. Graham says, “It really goes against the point of the product.” “There are better ways to get a lower home insurance premium.”
How to Shop Around for the Right Policy
When your renewal notice arrives, Mr. Graham recommends spending an hour or two getting quotes from different providers on a weekend. He suggests aiming for at least four or five quotes and using an independent comparison website can help.
Mr. Graham says there is a huge range in insurance prices, and there are ways you can lower your premium. Increasing your excess — the amount you pay out of pocket when you make a claim — can bring a substantial premium down to something more reasonable. “If you take the time to shop around, in most cases you will be able to end up with a better deal.”
Dr. Huang agrees. Comparing quotes and swapping between providers will help you get a lower premium in the Australian market, she says. And if you’re struggling to get insurance, Mr. Graham says it could be worth talking to an insurance broker.
This article contains general information only. You should consider obtaining independent professional advice in relation to your particular circumstances.
