Myth Busters: Are All Insurance Policies Created Equal?
In my conversation with Shawn Woedl, who is the lead sales generator for one of the nations leading providers of insurance to residential real estate investors, he debunked the myth that all insurance policies are created equally. He also addressed how much money is being lost due to investors believing this myth to be a fact.
As real estate investors, when purchasing a property, one of our main objectives is to attain the highest cash flow possible. Since cash flow is a function of income and expenses, technically, our objective is to decrease expenses and maximize income. While some expenses are truly outside of our sphere of influence, at least to a degree (i.e. property taxes, PITI, etc.), it is important to understand that for insurance expenses, this isn’t the case.
Hopefully, on the front end of a purchase, you are going through several different insurance agents and brokers to obtain different quotes and proposal options to see where you can get the best price. However, it is also important to note that ‘price’ is not the only difference from policy to policy. The policies themselves are actually different as well because not everything is created equally.
For example, let’s say you receive 2 different proposals from 2 insurance brokers. You discover that one policy is 30% more than the other. At this point, you should ask for a “full coverage comparison” in order to determine the differences. According to Shawn’s experiences, that 30% difference may come from a number of areas. However, the most common thing he sees that accounts for the difference is that the actual policies are not the same. One policy is a special form policy and the more inexpensive option is a basic form policy. And non-coincidentally, on average, special form policies are 30% more than basic form policies. Why is that? Obviously, it is because not all insurance policies are created equally.
Difference Between Special and Basic Form Insurance Policies
Special form policies are considered “all-risk” coverage. Unless there are specific exclusions that are listed on your policy, coverage is afforded to you in the event that a loss occurs. Typically, there are 6 standard exclusions for these types of policies:
- Mold and Fungus
- Wear and Tear
- Sewer and Drain Back-up
- Intentional Tenant Damage
On the other hand, basic form policies are different. Besides the same 6 standard exclusions above, basic form comes with a 4 additional exclusions:
- Theft Coverage (for items like A/C units, copper piping, owner’s possessions)
- Damage from Ice, Sleet, and Snow
- Water Damage
- Falling Objects
If you are willing to accept these 4 additional exclusions, you can save yourself 30% per year.
Deciding Between Special and Basic Insurance Coverage
When deciding between both policies, Shawn say’s that theft is the major driver. He uses a tool called “Rent Fact” to determine a properties potential for theft. “Rent Facts” scores a property on a scale between 1 and 100 and compares it against other locations in the immediate area and against the national average. The score takes a number of factors into account, including median income, crime rates, vacancy rates, occupancy type, etc.
Shawn say’s that a score of 30 to 40 is considered a strong neighborhood, meaning that the chances for theft are slim. A score in this range reflects a very solid location with low vacancy, good rent, and probably more owner-occupied properties than rentals. Therefore, basic form insurance may be the better option. However, once a properties score falls below 30 to 40, you may want to consider a special form policy, if available, because the chances of theft are a little bit higher.
Overall, Shawn say’s that it is all about risk and what you, as an investor, are comfortable with. However, the truth still remains. Not all insurance policies are the same, and if your property is in a solid neighborhood, you may be able to slash your expenses by 30% by obtaining a different insurance policy that provides less coverage.
Action item: If you do not know what is and isn’t included in your insurance coverage, call your agent and ask for a detail list. Check to see if you are paying for any coverage that is unnecessary and see what steps need to be taken to change to a different, less expensive plan.