Underinsurance is when someone does not have adequate insurance to cover the cost of damage or loss to their home or their belongings.
When you take out home insurance, you will be asked how much you want to insure your home for – this is typically referred to as the sum insured. This is the amount it would cost to rebuild your home if it was completely destroyed.
Say for example, you select a sum insured amount of $500,000 but it actually costs $700,000 to rebuild, you would be $200,000 out of pocket if your home was destroyed by an insured event such as a fire, storm or flood.
If you're underinsured and in a position where you have to make a claim, you won't receive the full cost for the damage done. You will only receive up to your sum insured amount.
If your home is completely destroyed, this could lead to you being thousands, or even hundreds of thousands, out of pocket – if you were to rebuild it to its original condition.
In some cases, underinsurance forces people to settle for a rebuild that is smaller than what they originally had or relocate to a cheaper area.
"According to the Cordell Construction Cost Index, the minimum construction costs to rebuild a home have increased 18% from 2019 to 2022. That includes the costs of timber increasing by 20% and cost of bricklaying alone going up by 45%. Staggering increases, especially when we consider that close to every home that requires repair or rebuild will need to use services such as these."
Your sum insured is the amount your home would cost to rebuild if it was totally destroyed. You typically need to calculate this amount yourself so it's worth using a building and contents insurance calculator like the one offered by the Insurance Council of Australia.
"A good habit that I recommend to customers is to go around the house and list out all of the things you own and should be included in your insurance coverage," says Angelo Azar. This is a really important step if you also have your contents insured – it helps you build a much clearer idea of how much your home and all your belongings are worth.
Check the product disclosure statement to make sure that you're covered for demolition, removal of debris and redesign costs. A comprehensive home insurance policy, such as one offered by Budget Direct, Honey and Youi, should cover these costs in addition to your sum insured (often for around 10% or 20% of your sum insured). So for example, if your home is insured for $500,000, you will receive an additional amount for up to $50,000 or $100,000 to pay for removal of debris and extra rebuilding costs. Watch out for insurers that offer a flat fee of around $15,000 for these costs, like Everyday and Aus Seniors. This may not be enough to cover the costs.
Some insurers offer a sum insured safeguard as an optional extra. This is a safety net that provided up to an additional 30% of cover on top of your rebuild costs (your sum insured). For example, if your sum insured is $600,000 but it costs $800,000 to rebuild your home, you would be $200,000 out of pocket, unless you had a sum insured safeguard. The other alternative is total replacement cover which pays for the full rebuild costs.
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