Financial planning Do I need earthquake insurance?

Q: The devastating earthquake in Turkey and Northern Syria have made me think about the need for earthquake insurance here in California. I know we live close to several major faults. Last year, I was going to buy earthquake insurance, but my friends told me it was a bad idea. What do you think? Does earthquake insurance make sense?

A: Although Californians experience 90% of the earthquakes in the United States, we are notorious for not insuring our homes against earthquake damage. In fact, according to the Federal Emergency Management Agency, only 10% of California homeowners have earthquake insurance. Here are some things you should consider as you make the decision about whether or not to buy earthquake insurance.

First of all, you need to understand that your standard homeowner’s policy does not cover earthquake damage. In other words, unless you buy a special policy, you underwrite the risk yourself.

Second, you need to know that most earthquake insurance in California is issued by the California Earthquake Authority. After the 1994 Northridge earthquake, private insurers fled the state saying the risks were too high. In response, the California state legislature formed the California Earthquake Authority.

The CEA is a state-run insurance pool that issues earthquake insurance through a network of participating insurers. The list of participating insurers includes most of the major property and casualty insurance companies as well as several lesser-known companies. These participating insurers process all CEA applications, handle policy renewals and process all CEA claims, but the risk is actually assumed by the CEA. You can see the list of participating insurers at the CEA website (www.earthquakeauthority.com.) You can also use their free premium calculator to get an estimate of how much earthquake insurance would cost.

The cost of earthquake insurance depends on several factors, including when the house was built and the type of construction that was used. However, as with most things in real estate, the most important factor is location. For example, earthquake insurance in Monterey County is relatively inexpensive compared with neighboring San Benito County. According to the CEA premium calculator, a $1,000,000 earthquake policy on a 30-year-old home in Monterey would cost around $274 per year. In San Benito County, the same policy on an identical home would cost $2,075 per year.

Before buying earthquake insurance, you need to carefully consider how much of a deductible you will retain. Typically, deductibles are 15% to 20%, but you can get them as low as 5% or as high as 25%. The higher

the deductible, the less your insurance will cost, but the more you will have to spend out of your own pocket should your home suffer earthquake damage.

With a 20% deductible, the owners of the $1,000,000 house in our previous example would have to suffer more than $200,000 in damage before they would see any benefit from their insurance. If you live in Monterey and have a well-built wood-framed home, you probably would not suffer damage in excess of your $200,000 deductible. At least that is the argument most people make. However, in the event of a catastrophic quake like Turkey experienced last week, you would be glad to have the insurance. Perhaps $274 per year isn’t too much to pay for that peace of mind.

One final word about earthquake insurance. Make sure you read your policy carefully. The typical earthquake policy is subject to very specific limits and not everything in your house may be covered. For example, artistic embellishments such as stained glass, mirrors, or inlays are specifically excluded from the standard CEA policy. Water damage from tsunami or other external sources is also excluded as is fire, even if the fire is the direct result of the earthquake. For more details, you can download a sample of the CEA policy from their website.

Steven C. Merrell is a partner at Monterey Private Wealth Inc., an independent wealth management firm in Monterey. He welcomes questions you may have concerning investments, taxes, retirement, or estate planning. Send your questions to Steve Merrell, 2340 Garden Road Suite 202, Monterey, CA 93940 or email them to [email protected].