Is There Any Value? Reevaluating Homeowners Insurance Valued Policy Laws

Abstract

State valued policy laws for homeowners insurance are a notable exception to the principle of indemnity. These laws require that insureds receive the full face value of their insurance in the event of a total loss, irrespective of the face value’s relationship to the house’s actual cash value. This Paper explores the consequences of these laws, ultimately concluding that they actually hurt policyholders despite their pro-homeowner justification. With a combination of the first empirical test of the cost imposed by valued policy laws as well as theoretical arguments, this Paper finds that valued policy laws hurt insureds in several ways: insureds pay more than they otherwise would for insurance; insurers experience diminished incentives to engage in risk classification; and insureds cannot cheaply plan for unanticipated increases in housing prices. Justifications to continue valued policy laws have lost much of their force in light of modern insurance practices. Repealing valued policy laws could provide significant welfare gains to insureds while bringing homeowners insurance more in line with fundamental principles of insurance.