Is having earthquake insurance necessary?

 Clients often ask Is having earthquake insurance necessary?  According to the Los Angeles Times less than 20% of California homeowners have earthquake insurance.  Homeowners without a mortgage, or who have substantial equity, have a lot to lose if “the big one” hits.  For them, purchasing earthquake insurance is a simple decision.

It amazes me that California mortgage lenders don’t require that earthquake insurance be in place when obtaining a loan. The case for earthquake insurance is much less clear for homeowners with large mortgages.  Those with little equity share the exposure (risk) with their lender.  After the Northridge quake, many of these homeowners simply walked away from their home and mortgage.  California is a non-recourse state meaning that borrowers are not personally liable for purchase money loans (cash in/not cash out) but that’s another post.

So should you or shouldn’t you purchase earthquake insurance?   Let’s look at the numbers to help you decide.

Assume your home is insured for $1,000,000 and you have a $700,000 mortgage.  Your 10% percent deductible amounts to $100,000 (deductibles range from 10 to 15%).  If your home suffers $100,000 worth of damage – you receive nothing (because of the deductible).

If your home experiences $800,000 in damage, again the first $100,000 is not covered.  Any payment for damages will need to be signed off by the lender but you will receive enough money to pay off the mortgage or hopefully to rebuild.  You will not get to walk away with a check.

The cost of earthquake insurance depends on numerous factors, such as location, number of stories, age of the home, cost to rebuild and the amount of coverage you have for personal property.  One caveat when shopping for earthquake insurance is to be sure the cost to rebuild makes sense.  My insurance company thinks I can rebuild my home for $150 a square foot and that’s laughable.  The cost to rebuild a modest home is likely around $285 per square foot.  If you do opt for this additional insurance make sure your coverage is adequate.

Related post: Homeowners should review their insurance policy annually