Types of Homeowners' Insurance Policies

Most people need homeowner's insurance because their home is their single most expensive asset, which, if lost, would create financial hardship for most people. Also, virtually all mortgage lenders require that the mortgagor buy insurance to cover their security for the loan.

Most homeowner policies cover the dwelling, other structures on the property, the contents of the dwelling and other structures, and will also pay for living expenses if the primary residence is uninhabitable. Most also provide personal liability insurance.

Homeowner's insurance was first introduced in the 1950s. Today, most homeowners' insurance policies are based on forms developed by the Insurance Services Office (ISO) and the American Association of Insurance Services (AAIS). For commercial and personal lines of insurance, ISO provides:

While some insurers use their own forms, most of these follow ISO forms. The most recent homeowners' insurance policies are based on the Homeowners 2000 Program (HO 2000), which incorporated changes to make the policy more compliant with court decisions and to accommodate changing lifestyles since the last revision in 1991. The rest of the information presented is based on the HO 2000 policies.

Homeowner's insurance is available for 1- to 4-family dwellings. No more than 2 families or 2 boarders may occupy any single residence. Although homeowner's insurance is for private residences only, certain businesses can be included, such as day care or home offices established for a business or profession; however, it does not cover professional liability, which should be purchased as a separate policy. There are also different policies for condominium or cooperative owners and renters.

There are 6 major policies in the HO 2000 program that cover homeowners, renters, and owners of condominiums or cooperatives. However, none of the HO policies cover mobile homes or house trailers, which can be covered by other insurance policies. There is an HO-1 policy, but it is rarely sold today because of its narrow coverage.

The HO-2, HO-3, and HO-5 are policies for owners of fairly modern homes, from the least coverage of the HO-2 policy to the most comprehensive policy of HO-5. These 3 policies also cover other physical structures on the property and personal property for the same covered perils for the main residence.

The HO-2 (aka Homeowners 2, Broad Form) policy is a named-perils policy that specifically covers perils enumerated in the policy, and no others. Perils usually covered include windstorm, lightning, or hail, and fire or explosion. However, if the peril is not included, then it is excluded. HO-2 also provides living expenses if the insured dwelling is uninhabitable.

HO-3 (aka Homeowners 3, Special Form) is the most commonly purchased policy, because it is the minimum coverage required by mortgage providers. The HO-3 policy is an open perils policy that covers any direct damage to the house or other structures on the property unless specifically excluded. However the coverage for personal property is for named perils only — the same perils listed in an HO-2 policy. Covered losses on realty are insured for full replacement value with no depreciation deduction, although certain restrictions apply.

The HO-5 (aka Homeowners 5, Comprehensive Form) policy is also an open perils policy, but also includes direct damage or loss to personal property. Thus, personal property is covered by an open perils clause rather than the more restricted named perils coverage of HO-2 and HO-3 — any direct damage or loss to realty or personal property is covered, unless specifically excluded.

The HO-8 (aka Modified Coverage Form) policy is for older homes with a replacement cost much higher than its market value. To prevent moral hazard, insurers will not insure a home for more than what it is worth. The HO-8 policy solves this problem by paying the cost to repair or replace damaged property, using common construction materials and methods. HO-8 provides functional replacement, which is cheaper. For instance, plaster walls may be replaced with drywall and hardwood floors could be replaced with plywood. Theft coverage is restricted to $1,000 per occurrence from the main residence only.

The HO-6 (aka Unit-Owners Form) is a modified HO-2 policy specifically designed for owners of condominiums or cooperatives. A condominium or cooperative consists of 2 components for insurance purposes — the building and common areas, and property specific to each unit owner. Thus, this named-perils policy covers certain semi-permanent structures, such as carpeting, wallpaper, built-in appliances, and kitchen cabinets, but it does not cover the structure itself or common areas, since this should be covered by insurance purchased by the condominium association or the cooperative. The policy does provide payment of up to $1,000 for a loss assessment charge by the condominium association or cooperative that is not covered by the insurance on the realty.

The HO-4 (aka Contents Broad Form) is a modified HO-2 policy for renters of rooms, apartments, or houses. This named-perils policy not only covers personal property, both within the rented dwelling and outside, but also includes liability insurance of at least $100,000 for damage to the property or for injuries to other people in the rented dwelling. Coverage is also provided for any alterations to the structure by the renter, but is limited to 10% of the purchased coverage for personal property.

You may wonder why the HO policies have been numbered this way. I speculate that the policies have evolved as the Insurance Services Office sought to provide policies that would allow insurers to expand their market, and simply numbered them sequentially as the policies were developed. The original homeowners insurance policies obviously covered homes. Thus, the first 3 policies — HO-1, HO-2, and HO-3 — were policies specifically for homeowners. Then, after some experience with homeowners insurance, insurers wanted to expand their market by selling insurance to renters, which was a very large market, and, thus, the HO-4 policy was written. Then the HO-5 policy was written afterward to provide more coverage than the HO-3 policy and allow insurers to collect more premiums. HO-6 expanded the market even more by providing insurance coverage for condominiums and cooperatives. Condominiums first appeared in the United States in 1961, and cooperatives appeared later, and neither was a substantial market until recently, so the HO-6 policy couldn't have been written before then. HO-8 expanded the market further by providing coverage for older homes that would not qualify under the earlier policies because of the moral hazard and the violation of the principle of indemnity. Only after it was figured out how to insure older homes profitably by avoiding these 2 problems, did the HO-8 policy appear. Thus, these policies were designated with increasing numbers as insurers wanted to enter new markets to expand their coverage, although I don't know why they skipped over the HO-7 designation.
Understanding the foregoing makes it easier to remember the designations for each policy. For instance, since apartments existed long before condos and were a much larger market, the HO-4 policy was developed and designated before the HO-6 policy.

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