5 Key Concepts of Homeowners Insurance

If you plan to buy a home in the near future, you should be researching the various components of homeowners insurance. Why? Because you'll need to have a policy in place by the time you close on the house. In fact, your lender will require you to provide proof of insurance on closing day.

This article offers a solid introduction to the world of homeowners insurance. We will cover several key concepts you need to understand before you start shopping for insurance.

Here are five important things you need to know:

1. Understanding Premiums and Deductibles

Here are two key definitions you should know, before we go any further: The home insurance premium is the amount you pay for the policy. The deductible is what you'll have to pay if you ever make a claim against the policy, before the insurance company will pay the rest. If you can keep these two definitions in mind, everything else will make more sense. Let's move on to discuss the relationship between these two things.

2. Raising the Deductible Can Lower the Premium

Premiums and deductibles generally have an inverse relationship. This means you can lower your premium (the amount you pay every year) by raising your deductible. A lot of financial experts recommend this very strategy, as way of lowing the overall cost of insurance.

According to the Insurance Information Institute: "If you can afford to raise your deductible to $1,000 [as compared to the standard $500 deductible], you may save as much as 25 percent."

3. There are Other Ways to Control Costs

So how much does a homeowners insurance policy cost, anyway? In the United States, the average policy costs about $800 per year. This is just for the premium, which is the amount you pay year after year. Deductibles vary from one policy to another, and they can be raised or lowered by the insured party.

You can lower the cost of coverage by increasing your deductible amount (mentioned earlier), by shopping around for competing offers, and by getting a multi-policy discount from your current insurance company.

4. Replacement Cost is Better Than Cash Value

When you choose a home insurance policy, you will probably be asked to choose between replacement cost and actual cash value (as they pertain to your belongings). Replacement cost offers more protection, because it will replace the items you have lost with comparable items -- even if they are worth more today than when you bought them.

Take a big-screen television, for example. If you lose a model that's ten years old, it's possible that a newer but comparable model will cost hundreds more than what you paid for your older model. Replacement-cost coverage will pay the higher amount. Cash-value coverage will only give you what you paid, ten years ago.

5. Flood Protection is Extra

Did you know that most homeowners policies do NOT offer flood protection? It's true. So if you live in an area where there's a reasonable risk of flooding, you should get a separate policy or a "rider" for flood coverage. You can learn more from the federal government's website at FloodSmart.gov.

These are the most important concepts to keep in mind when shopping for homeowners insurance. Obviously, there is more to the picture than what is discussed in this article. But if you keep these concepts in mind, you'll have a much easier time choosing a policy.