Owning and renting a home can be great supplemental income for anyone who needs extra cash but cannot take on another full-time job. However, being a landlord brings anything but passive income. To succeed in this endeavor, you should actively weigh your costs and price your rental appropriately. One of the commonly misunderstood costs is landlord home insurance.
Because landlord and homeowners' plans are so different, comparing the costs directly does not paint the full picture. If you're a new landlord, take the time to learn what each type of policy can cover before you compare costs.
Landlord insurance policies cost about 15 percent to 20 percent more than comparable homeowners' plans. However, these types of insurance offer different types of protection.
Landlord Insurance vs. Homeowners' Insurance
If you have owned a home before, you're probably somewhat familiar with homeowners' insurance. These policies help you get back to normal when a storm damages your roof or a thief takes your belongings. While landlord insurance covers many of the same issues as its counterpart, the policies have significant differences. The liability coverage, other perils, medical protection and landlord insurance cost all set these policies apart from homeowners' insurance.
Homeowners' insurance can cover you, your family, the structure of your home and your belongings against certain problems, which people in the industry call "perils." Base-level policies cover just 11 perils and offer such little coverage that some states don't allow them.
The next step up is an HO-2 policy. These plans cover perils like frozen pipes bursting, theft of belongings and hail damage. However, HO-2 plans do not offer protection against theft or liability. Because HO-3 plans do, these have become the most popular types of plans. Some mortgage lenders require HO-3 plans because they offer protection that can protect a homeowner's finances in the event of a disaster.
Landlord insurance policies have categories that start with "DP." The first levels of coverage, DP-1 and DP-2, cover the structure of the property but not the belongings. Your tenants would need to purchase renters' insurance to protect against theft.
DP-3 policies cover theft of belongings and offer liability coverage. The more comprehensive plans also cover appliances that you furnish, including refrigerators and washing machines. Homeowners' policies rarely help you replace these items if they break on their own.
Both types of policies can protect you from legal and financial troubles. However, landlord policies have different structures and allow room for your tenant. It's important to get the right coverage for your situation.
Increase Liability Coverage
The liability section of either plan helps you if someone gets injured on your property. For example, imagine that you host a party at your home and someone brings a guest along. You don't know him, but he seems nice enough, so you go along with it. A few drinks later, the guest tumbles down your stairs and breaks his arm. A week later, you find out he's filing a lawsuit against you.
Regardless of whether you're wrong or right in the eyes of the court, you may need to hire a lawyer to defend you. Your HO-3 policy may cover this expense. If you lose in court and need to pay a big settlement, your insurance can help with that too. However, if that drunken person is a tenant in a house you do not occupy rather than a party guest, homeowners' insurance may not do the trick.
Now, imagine a similar scenario in which your tenant has a guest who gets hurt. Since it's your property, the guest could sue you. If you have an HO-3 policy on the property, you may pay for the lawyer and settlement out of pocket. However, if you have a DP-3 plan, you can rely on your insurance to cover the costs.
Coverage for Other Perils
While liability is important, especially when you rent to a stranger, it's only one part of a landlord policy. If something catastrophic happens to your rental property that requires tenants to move out, you will not gain income while you make the repairs. Some landlord insurance pays you the equivalent to the rent you lose until the house is habitable. Depending on the coverage you get, your policy could help replace any equipment you keep on-site for maintenance, such as a lawnmower. It may also replace copper wiring in the event of theft and can help rebuild the structure after a fire.
Replacement Cost vs. Value
It's important to know whether the policy will pay for the cost to replace an item or structure or if it covers the value of the item. Replacement cost is better in the case of an emergency and is often included in DP-3 plans.
For example, imagine you supply a television in the home and a thief takes it. Consider that you bought the television four years ago for $600. Because it is not the latest model, the value of the unit has depreciated over time, and the insurance company values it at $300 now. If you have a replacement cost policy, the company will give you the money to buy a similar-sized television in today's market. Otherwise, you will get $300 to replace it. If you scale this to the total replacement of a home, you can see how much more value these plans offer.
Manage Your Costs
Because landlord insurance is a combination of business and homeowners' insurances, the costs can be higher than what homeowners are used to paying. Landlord policies cost about 15 to 20 percent more than homeowners' policies on average. If you want to lower your premium, take some of the risks out of covering your property.
Some providers offer discounts to landlords who have security systems or those who bundle with other policies. If you're still looking for a property to buy, consider newer builds with no pools, hot tubs or other dangerous structures. You may also pay less for a similar home in one zip code over another.
Choose Insurance for Special Cases
Just because you're collecting rent from someone doesn't mean you need a landlord policy. If you're only using the space as a short-term rental, your home insurance may cover you. However, you have to notify the provider in advance of the rental. Some companies may require you to add a special clause to your policy, called a rider, for the duration of the rental. However, if you plan to rent out your home to several guests for short periods each, like a vacation rental, you need business insurance. These are the same kinds of policies that cover bed and breakfast establishments, for example.
Sometimes you may rent a room in your home while you occupy the remainder. If you find yourself in this situation, you may want to call your insurance agent. In most cases, a home policy is sufficient. However, you may want to add more liability coverage. Generally speaking, you want more liability when there are more people in your home.
You can also add riders that cover the lost income if your house or the room you rent becomes uninhabitable after a disaster. Also, you may ask your tenant to purchase renters' insurance. These plans ensure that the tenant's belongings have coverage. Since your home policy covers only your things, your renter could end up with nothing after a fire or burst pipe.
If you plan to run a boarding house with several tenants, you should talk to your insurance provider. Some providers have limits on the number of tenants you can have before you need to switch from homeowners' to landlord insurance, even if you live in the property too.
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