Fire Insurance: Definition, Elements, How It Works, and Example

What Is Fire Insurance?

The term fire insurance refers to a form of property insurance that covers damage and losses caused by fire. Most policies come with some form of fire protection, but homeowners may be able to purchase additional coverage in case their property is lost or damaged because of fire. Purchasing additional fire coverage helps to cover the cost of replacement, repair, or reconstruction of property above the limit set by the property insurance policy. Fire insurance policies typically contain general exclusions such as war, nuclear risks, and similar perils.

Key Takeaways

  • Fire insurance is property insurance that provides additional coverage for loss or damage to a structure damaged or destroyed in a fire.
  • Fire insurance may be capped at a rate that is less than the cost of the losses accrued, necessitating a separate fire insurance policy.
  • The policy pays the policyholder back on either a replacement-cost basis or an actual cash value basis for damages.
  • Although some homeowners insurance policies include fire coverage, they may not be extensive enough for some homeowners.

How Fire Insurance Works

Homeowners insurance provides policyholders with coverage against loss and/or damage to their homes and possessions, also referred to as insured property. This is a blanket term used to describe both the interior and exterior of the home as well as any assets that are kept on the property itself. Policies may also cover injuries someone sustains while on the property. If you have a mortgage, there's a very good chance that your lender won't advance your loan if your property isn't covered. Even if it isn't a requirement, it's a good idea to protect yourself. There are additional forms of coverage you can purchase including fire insurance.

Fire insurance covers a policyholder against fire loss or damage from a number of sources. These include fires brought about by electricity, such as faulty wiring and gas explosions, as well as those caused by lightning and natural disasters. A burst and overflowing water tank or pipes may also be covered by the policy.

Most policies provide coverage regardless of whether the fire originates from inside or outside of the home. The limit of coverage depends on the cause of the fire. The policy reimburses the policyholder on either a replacement-cost basis or an actual cash value (ACV) basis for damages.

If the home is considered a total loss, the insurance company may actually reimburse the home's current market value. The insurance typically provides a market value compensation for lost possessions, with the total payout capped based on the home's overall value. If, for example, a policy insures a house for $350,000, the contents are usually covered for at least 50% to 70% of the policy value—or a range of $175,000 to $245,000. Many policies limit how much reimbursement covers luxury items such as paintings, jewelry, gold, and fur coats.

Special Considerations

A policyholder should check the home's value each year to determine if there is a need to increase the coverage amount. A policyholder cannot get insurance for more than a home's actual value. Insurance companies may offer stand-alone policies for rare, expensive, and irreplaceable items that are otherwise not covered in standard fire insurance.

Some standard homeowners insurance policies include coverage for fire, but they may not be extensive enough for some homeowners. If an insurance policy excludes coverage for fire damage, a homeowner may need to purchase separate fire insurance—especially if the property contains valuable items that cannot be covered with standard coverage. The insurance company’s liability is limited by the policy value and not by the extent of damage or loss sustained by the property owner.

Fire insurance provides extra coverage to offset any additional costs to replace or repair property that surpasses the limit set by homeowners insurance.

Fire insurance policies provide payment for the loss of use of the property as a result of a fire or for additional living expenses necessitated by uninhabitable conditions, as well as damage to personal property and nearby structures. Homeowners should document the property and its contents to simplify the assessment of items damaged or lost in the event of a fire. 

A fire insurance policy includes additional coverage against smoke or water damage due to a fire and is usually effective for one year. Fire insurance policies on the verge of expiration are usually renewable by the homeowner, under the same terms as the original policy.

Article Sources
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