California’s Palisades Fire Causes Worry About Being Under-insured or Over-insured
Some homeowners have too much insurance. Others have too little. Knowing the difference could change your financial future.
The latest California wildfires have brought up tough questions on property valuations and insurance coverage.
If you have too much insurance, you’re over-insured and may be paying thousands of extra dollars per year for no benefit whatsoever.
If you have too little insurance, you’re under-insured and may be exposed to excess risk – especially after a total loss situation like a wildfire.
How to Determine Optimal Insurance Coverage
Ideally, you start to consider property valuation before the loss of your house.
Consider the cost of your house and the contents inside your house.
Insurance should be able to cover the total loss of the structure of your house and the stuff inside your house.
How much would it cost to rebuild your home after a total loss from a wildfire? If it would cost $450,000, then you should have $450,000 in dwelling coverage.
How much stuff do you own? What is the approximate value of that stuff? If you have $50,000 of stuff inside your home, then you should have $50,000 in personal property coverage for that stuff – along with any extra endorsements for high-value items (say, items over $1,500 not covered by an ordinary policy).
Insurance Coverage vs. Property Value
Land can have a lot of value in California – especially in a neighborhood like Pacific Palisades.
In many cases, the value of your land exceeds the value of your home.
Many homeowners, however, buy insurance that covers the full value of their home, including the structure and the land on which it sits. That’s a prime situation for being over-insured.
Here’s how it works:
Let’s say your home is valued at $1 million. You’ve checked the Zestimate. You’ve checked comparable values in your neighborhood. You believe, if you sell your home today, that you would receive $1 million from a buyer.
You may instinctively choose to insure your home for $1 million. After all, your home is valued at $1 million so you should buy insurance to cover the full value of the home.
However, the value of your home includes the value of the land on which it sits along with the dwelling itself.
Your home may be valued at $1 million because it sits on a $700,000 piece of land. The dwelling itself may only be worth $300,000.
If you buy a $1 million insurance policy to cover your property, then you’re over-insured by $700,000. Insurance doesn’t cover land; it covers the cost of rebuilding your home after a loss.
Instead of buying a $1 million policy, you should buy a policy to cover the cost of replacing the dwelling itself – which should be around $300,000.
After a loss, you don’t (typically) lose the land on which your property sits. You still own the lot and can rebuild on that lot.
Consider the 80% Rule
Many insurance experts recommend using the 80% rule to calculate the optimal amount of insurance coverage.
Here’s how the 80% rule works:
As long as you have purchased insurance coverage equal to at least 80% of your home’s total replacement value, your insurance company will cover the replacement cost of the home.
Let’s say you buy a home worth $500,000 but you only insure it for $300,000. In this situation, insurance would cover the cost of repairing or replacing your home up to the $300,000 limit of your policy – and you would cover all remaining costs out of pocket.
Homeowners in California Could Be Under-Insured Because of Canceled Policies
Over the last few years, insurers in California canceled thousands of policies because of the growing risk of wildfires.
These cancellations proved to be smart business, as the Palisades Fire of 2025 soon became the most devastating fire in US history.
Those cancelations may also have caused local homeowners to be under-insured – even if they did everything right:
- Thousands of California residents had their policies canceled in the months leading up to the Palisades Fire.
- Homeowners with canceled policies may have needed to turn to the insurer of last resort, a state-sponsored insurance plan. Essentially, the government steps in to provide insurance for homeowners when private insurers do not wish to do so.
- Because of the devastation of the Palisades fire, however, the state-sponsored insurance plan may not have enough money to cover claims.
- If the state-sponsored insurance plan doesn’t have enough money to cover claims, California could assess a one-time surcharge onto every policyholder in the state. Some estimates place that surcharge at around $1,000 per policyholder.
Are You Over-Insured or Under-Insured?
Being over-insured or under-insured can have a huge impact on your financial future.
Here are some questions to consider to determine if you’re over or under-insured:
- Consider local construction costs. How much does it cost to build a new home in your area? Consider calling local builders in your area. They might say it costs $150 per square foot, for example. If you have a 1,500 square foot home, then you would need $225,000 in coverage.
- Weigh actual cash value versus replacement cost. Some insurance policies use actual cash value to determine the value of your home and possessions. Actual cash value deducts depreciation from your insurance claim. Others use replacement cost, which considers the actual cost of replacing your home and possessions with like items today. Replacement cost policies are more expensive but could lead to thousands of dollars’ more compensation in a claim.
- Don’t forget about endorsements, additions, and exclusions. You may be under-insured even if you have the right amount of coverage. If you live in a flood zone and don’t have flood insurance, for example, then you may be under-insured. Consider endorsements, additions, and exclusions to fix any holes in your insurance coverage.
Don’t throw money away. Ask the questions above to verify you have the perfect amount of insurance coverage for your home without being over-insured or under-insured.
