Rental Property Insurance: What Landlords Need to Know

A rental you do not live in needs a landlord policy, also called a dwelling policy, because a homeowners policy is written for the home where you live. Have it in force by closing, or before the first tenant moves in if you are renting out a home you already own. It should cover the building at its cost to rebuild, the rent you lose while a covered loss is repaired, and liability, which dwelling policies typically leave out unless you add it. Flood damage needs a separate policy, and your policy does not protect your tenants' belongings, so require renters insurance in the lease where your state allows it.

Why a homeowners policy does not fit a rental

The standard homeowners form, HO-3, covers the "residence premises": a one-family house where you live, or a 2- to 4-unit building where you live in one of the units. That leaves two cases:

• You live in one unit of a duplex, triplex, or fourplex. A homeowners policy can still cover the building. Tell the insurer how many units you rent out.
• You move out and rent the whole home, or buy a home only to rent it. Switch to a dwelling policy before the tenant moves in. The North Carolina Department of Insurance describes the dwelling policy as the usual choice for a property that is not the owner's primary residence, rentals included.

If you plan to rent by the night or week, tell the insurer before you list the property; short-term rental insurance covers policies for that use.

DP-1, DP-2, and DP-3 compared

Dwelling policies come in three standard forms. A named-peril form pays only for causes of loss the policy lists; a special form covers any cause the policy does not exclude. Based on the North Carolina Department of Insurance's descriptions:

A DP-1 pays claims at actual cash value, the cost to replace minus depreciation, unless you pay extra for replacement cost. A DP-2 typically pays replacement cost, and on a DP-3 quote, confirm the settlement basis in writing. Dwelling policies typically do not include liability coverage, so ask each insurer to add it to the quote.

Check your lender's rules before you pick a form. For a conventional loan sold to Fannie Mae, the policy should be written on a special form or its equivalent, so a DP-1 or DP-2 may not satisfy the lender. Fannie Mae also requires coverage at replacement cost, the cost to rebuild without a deduction for age and wear (roofs can be insured on another basis), and a deductible of no more than 5% of the coverage amount. If your policy excludes wind or hail, as policies in coastal areas often do, the lender will require a separate policy for that peril.

Coverages a rental owner should carry

1. Building, at replacement cost. The NAIC notes that the cost to rebuild is not the purchase price, because the price includes the land. Ask for a rebuild estimate and review it each year; if coverage falls below 80% of the full replacement cost, the insurer may pay less on a claim.
2. Other structures. Detached garages, sheds, and fences, which dwelling forms can cover along with the house. Check the limit on each quote.
3. Loss of rent. Also called fair rental value, it pays the rent you lose while a covered loss is repaired. Confirm the limit and how many months it pays.
4. Liability. It covers your loss if you are sued and found legally responsible for someone else's injury or property damage, such as a visitor hurt on a broken stair. Choose a limit that fits your savings and other assets.
5. Your property in the unit. Appliances, window coverings, and tools you keep on site. List them when you get quotes.

Ask how each policy treats a unit that sits empty between tenants. On the broad form, for example, the North Carolina Department of Insurance notes that coverage for an accidental discharge or overflow of water or steam, such as a burst pipe, does not apply if the building was vacant for 60 days before the loss.

Flood, earthquake, and umbrella coverage

Flood and earthquake are common exclusions even on special-form policies, so each needs its own coverage.

• Flood. The National Flood Insurance Program (NFIP) covers a residential building for up to $250,000 and its contents for up to $100,000. It pays replacement cost only on a single-family home that is your principal residence, so on a rental it pays actual cash value, and it does not pay for lost rent. A new policy usually takes effect 30 days after purchase, with no wait when you buy it while getting a mortgage.
• Earthquake. Many insurers sell earthquake coverage as a separate policy or as an endorsement, an add-on to your policy. Ask for it if the property is in an earthquake-prone area.
• Umbrella. An umbrella policy pays liability claims above the limits of your other policies. The Texas Department of Insurance says coverage usually starts around $300,000 and pays up to at least $1 million. Confirm that it covers your rental properties and what liability limit it requires on each underlying policy.

What drives the premium

The NAIC lists these factors in home insurance pricing; ask your agent how each one affects a dwelling policy quote:

• The building: the cost to rebuild, construction type (brick or masonry usually costs less to insure than wood frame), age and condition, and the distance to a water source or fire department.
• Claims: the claims history of the property and of nearby homes, plus your own past water, fire, theft, and liability claims.
• Your choices: the coverages, endorsements, and deductible. A $1,000 deductible costs less than a $500 one, but hold at least the deductible for each property in cash reserves.
• Other factors: your credit history, in states that let insurers use it; smoke detectors, alarms, deadbolts, and sprinklers, which can earn discounts; and a pool or trampoline, which can raise the price.

Get quotes on the same form, limits, and deductible from at least two insurers before the contract deadline that lets you cancel over insurance, as the rental property due diligence checklist explains. If you later need to file, rental property insurance claims walks through the process.

Require tenants to carry renters insurance

The North Carolina Department of Insurance tells renters that a landlord's insurance does not cover their personal property or give them liability protection. A renters policy covers both: the tenant's belongings and the tenant's liability for injuring others or damaging their property. In the lease, set a minimum liability limit and require proof of coverage before move-in and at each renewal.

Check your state's law before you add the requirement. In Oregon, under ORS 90.222, you cannot require it for a household with income at or below 50% of the area median or for a publicly subsidized unit, and you cannot require more than $100,000 of liability coverage per occurrence unless landlords of similar rentals in the area customarily require more. You must also carry comparable liability insurance yourself and, before a new tenancy begins, tell the applicant in writing about the requirement, the amount, and the exemptions.

For when to buy coverage in the purchase timeline, see how to buy your first rental property.