How Does Homeowners Insurance Work? 6 Coverage Types Explained

Homeowners insurance definition: A homeowners insurance policy provides homeowners with financial support if their home and personal belongings are damaged by a covered peril, like fire or theft. Homeowners are also covered for personal liability, meaning their insurance will step in if they are held responsible for another person’s injury or property damage.

Almost always a requirement of closing on a mortgage, homeowners insurance is necessary if you are financing your home’s purchase. Keep reading to learn how it works and how much it will cost.

Key Takeaways A homeowners insurance policy pays to repair or replace your home and personal belongings if they’re affected by a covered peril. Covered perils include fire, lightning, theft and vandalism. Personal liability coverage protects you if you’re held liable for another person’s injury or property damage. If you have a mortgage, your lender will require you to buy homeowners insurance. On average, homeowners insurance in the U.S. costs $1,212.89 but actual costs can vary.

How Does Homeowners Insurance Work?

Homeowners insurance provides a financial safety net to keep you from bearing the full financial burden whenever a sudden and unexpected accident happens to your home. If you file a claim and the insurance adjuster determines the accident is covered, you can get reimbursed for your losses, but only up to your policy limits.

For example, if you have a $250,000 dwelling coverage limit, then that is the maximum amount of money you could receive for any damage to the structure of your home. So, if a fire burned down your house and it would take $300,000 to build a new home, you would have to pay $50,000 out of pocket.

A standard home insurance policy protects the homeowner against losses for both property damage and personal liability.

With property damage claims, your insurer will pay to repair or rebuild your home if it’s damaged by a cover peril. If your personal belongings are stolen, then you will be reimbursed for that loss, as well.

A standard policy will reimburse your losses at the property’s actual cash value (ACV) after you meet your deductible. ACV accounts for depreciation, such as age and wear and tear, so the check you receive is not always the amount needed to replace it at today’s market price. Homeowners willing to pay a higher premium can upgrade to replacement cost value (RCV) coverage, which entitles the homeowner to a check amount that would replace the insured property at today’s market value.

With personal liability claims, your insurance company will cover the costs of another person’s medical treatment and recovery if you were responsible for them getting injured on your property. Similarly, your policy can provide funds for someone else’s property repairs if you accidentally damaged their property.

Is Home Insurance Required?

Homeowners are not legally required to have home insurance in any state. However, if you have a mortgage, as the majority of homeowners do, your lender will almost certainly require you to purchase a home insurance policy.^[1] If you do not meet your lender’s insurance requirements, they may buy a force-placed insurance policy on your behalf — this usually carries a higher-than-average premium.

If you have finished paying off your house, you have no obligation to buy homeowners insurance. Nevertheless, it is still a wise investment since it ensures that one of your largest assets is taken care of in case of a disaster.

What Is Covered by My Homeowners Insurance Policy?

There are six types of coverage included in a standard homeowners insurance policy: dwelling, additional structures, personal property, loss of use, personal liability and medical payments.

Dwelling

Dwelling coverage, or Coverage A, protects the physical structure of your home and certain attached features, like a porch. Dwelling coverage is the core part of a standard homeowners insurance policy. As a result, the limit for the other coverage types listed below will be a percentage of your dwelling coverage limit.

Generally, your insurer will require you to purchase enough dwelling coverage to rebuild your home if it’s ever declared a total loss.

Your home’s structure is insured only for losses caused by a covered peril. Called open peril coverage, a standard policy will insure all losses except for those specifically excluded in your policy. Fortunately, standard homeowners insurance will cover you for the below 16 common perils. (We’ll cover excluded losses more in-depth in a later section.)

1. Fire or lightning
2. Windstorm or hail
3. Explosion
4. Riot or civil commotion
5. Damage by aircraft
6. Damage by vehicle
7. Smoke
8. Vandalism or malicious mischief
9. Theft
10. Volcanic eruptions
11. Falling objects
12. Weight of ice, sleet or snow
13. Sudden/accidental discharge or overflow of water/steam from appliances, heating systems or air conditioning systems
14. Sudden/accidental tears, bulges, cracks and burns of HVAC systems, hot water systems or water heating appliances
15. Freezing of plumbing, heating, air conditioning or fire sprinkler systems
16. Sudden/accidental damage from power surges

So, if your home or personal belongings are lost because of one of the perils listed above, you should be eligible for reimbursement from your provider.

Additional Structures

Additional structures coverage, or Coverage B, pays to repair or replace structures on your property that are not directly connected to your house, like sheds, fences or an in-ground swimming pool. With many homeowners insurance policies, your additional structures coverage limit will be 10% of your dwelling coverage limit.^[2]

Personal Property

Personal property coverage, or Coverage C, covers personal belongings inside your home, including furniture, clothing, electronics and more. Unlike dwelling coverage, in a standard policy, your personal property is insured on a named peril basis. This means that your insurance company will only reimburse you if it was affected by a peril specifically listed in your policy (see earlier list). Homeowners can pay a higher premium to upgrade to the same open peril coverage that insures their dwelling structure.

Personal property coverage limits typically range between 50% and 70% of your dwelling coverage limit.

Most policies also include off-premises coverage, which insures personal belongings outside your primary residence, but usually for only up to 10% of your personal property coverage limit.^[2]

Loss of Use

Loss of use coverage, also called additional living expenses coverage or Coverage D, pays for temporary living costs incurred while waiting for repairs to your home. If your house becomes uninhabitable due to an unexpected accident, loss of use coverage can reimburse you for hotel stays, laundry and storage costs, restaurant meals and more. If you are eligible for reimbursement, many policies will pay you up to 20% of your dwelling coverage limit for additional living expenses.^[3]

Personal Liability

Personal liability coverage, or Coverage E, can provide you with financial protection if you are held responsible for damage to another person’s property or someone getting injured on your property. Covered expenses can include another person’s medical bills, lost wages and property repairs. Below are two examples of when personal liability insurance would step in:

• Property damage: Your child and his friend are playing catch outside and accidentally throw the ball through a neighbor’s window. Your insurance company would pay for repairs to the window.

• Bodily injury: A guest trips and falls down your stairs because one of your steps is uneven. Your provider would cover your guest’s medical bills.

Personal liability insurance will also pay for your legal expenses if either of the above claims escalates into a lawsuit, including attorney fees and settlement costs.

Your insurer will not cover you for liability losses if the damage or injury was inflicted intentionally.

Medical Payments

Medical payments coverage, or Coverage F, is similar to personal liability coverage in that it can cover the costs of another person’s medical bills. However, medical payments coverage limits range from $1,000 to $5,000, so it is only applicable for relatively minor injuries.^[4]

This coverage is distinguishable from personal liability coverage because it is available even if you’re not held liable for another person’s injuries. Another limitation: medical payments coverage will not pay for legal expenses. Instead, it is meant to deter legal action, helping to prevent a minor claim from escalating into a costly lawsuit.

What Is Not Covered by Homeowners Insurance?

Your homeowners policy will list coverage exclusions, which are losses that your insurer will not cover. Exclusions in standard policies commonly include:

• Earthquakes, sinkholes, landslides or mudslides and other ground movement
• Intentional loss
• Lack of maintenance or neglect
• Government confiscation or condemnation of property
• Nuclear hazard
• War
• Floods from heavy rain, high tides, overflowing rivers or some other external water source (floods sourced from inside your home, such as burst pipes or leaking appliances, are usually covered)
• Pests and infestations
• Mold
• Dog bites by certain breeds
• Ordinance and failure to meet local building codes and standards
• Identity theft
• Losses incurred while operating a home-based business

Types of Homeowners Insurance

There are eight main types of homeowners insurance but only four of them apply to the most common types of single-family homes.

Type	Description
HO1	Basic coverage that only protects against the first 10 named perils
HO2	Broader coverage that protects against all 16 of the named perils
HO3	Standard coverage for most homes that offers dwelling coverage on an open peril basis and personal property coverage on a named peril basis
HO5	Comprehensive coverage that offers dwelling and personal property coverage on an open peril basis plus higher coverage limits for expensive items like furs, jewelry and other luxury goods

HO-3 policies are the most commonly sold homeowners insurance product because it usually meets the insurance coverage standards required by mortgage lenders. Many insurers have phased out the sales of HO-1 and HO-2 policies.^[5]

How Much Is Homeowners Insurance?

The average cost of homeowners insurance in the U.S. in 2022 was $1,213.89 per year. Of course, actual costs can differ greatly from the national average and are based on several factors. Location is just one consideration. For example, annual premiums in Hawaii averaged $436.24, while Oklahoma residents averaged a much higher $2,891.62.

Other factors used to calculate your home insurance rates can include:

• Home’s age
• Coverage limits
• Roof age and condition
• Amenities (e.g., trampolines or swimming pools)
• Policy’s coverage limits and deductible
• Claims history
• Credit score
• Pets
• Zip code

How Much Home Insurance Do I Need?

Homeowners will need to adjust their home insurance coverage based on their property’s value, rebuild costs, local risks and other factors. When calculating how much home insurance coverage you need, be sure to consider the following:

• Rebuilding costs: In general, it’s best to purchase a policy with enough dwelling coverage for you to rebuild your home if it’s completely destroyed in a covered accident, like a fire. This requires taking into account local construction prices, the square footage of your house and other added features that could affect the price of rebuilding.
• Amenities: Certain home features, like swimming pools and trampolines, can increase your exposure to liability for bodily injury. As a result, you may need to purchase a policy with greater personal liability coverage to help offset this higher liability risk.
• Value and type of personal belongings: Certain valuables, like jewelry and antiques, carry a sublimit, meaning it is only covered for a percentage of your personal property coverage’s ordinary limits. Homeowners can purchase scheduled property coverage to insure expensive items at their replacement cost value.
• Local perils: You may need to purchase extra insurance if you live in an area prone to perils that are excluded from standard policies. For example, homeowners in California may want to buy earthquake insurance since it is a fault-line state or flood insurance if they live in a coastal state.

Methodology

SmartFinancial collected over 100,000 home insurance quotes from multiple counties and insurance companies in each state to produce an average price per state. We then averaged the state averages to obtain a national average price for home insurance in the United States. Home insurance quotes were based on homes with a $250,000 dwelling value.