Why do people get the rebuild cost of their home wrong?
A 2016 Treasury report stated that up to 85% of dwellings in New Zealand could be underinsured by an average of 28%. Underinsurance of homes across the country was estimated to be worth $84 billion. There are various reasons as to why people end up underinsured (and sometimes over-insured). The main reason is that people are not experts on building costs so it’s very difficult to get an accurate estimate.
Another significant reason for widespread under-insurance is that costs included in the replacement sum insured are often not considered by policyholders. The replacement sum insured includes all the direct costs typically associated with building a home. However, it also includes compliance costs, professional fees, other fees and demolition/removal costs. When such costs are ignored by insured parties, it contributes to the underinsured shortfall for fully replacing the home.
Other than a lack of knowledge on costs, some people may purposely choose to under insure their home to save premium. This is approach is very dangerous and not recommended as in the event of a major loss it may leave the home owner without adequate funds to rebuild. The premium saved when doing this is also likely to only be a modest sum. If a lower premium is a motivator for the homeowner it is best to select a high excess (eg $2,000 or even $5,000). This will result in a premium reduction and means you will need to contribute more in the event of a claim. However, meanwhile the big important losses are still well covered. Insurance is about worst-case scenario so making sure the big things (fire, flood, storm etc) are adequately insured is key.