Do you need disaster insurance?

So why would anyone pay for coverage? Several reasons, including:

• The government might not step in. The president has to declare a major disaster before FEMA and SBA can step in to help. If the damage is limited, that might not happen, even if you personally suffer a catastrophic loss. The vast majority of floods, for example, are not declared major disasters.

• The help might not be enough. FEMA grants may be limited, and SBA loans for home repairs top out at $200,000. (You can expect repair costs to soar after a disaster, by the way, because every available contractor will be working overtime.) You have to have "acceptable" credit to get an SBA loan.

• You may be adding considerably to your debt burden. SBA loans are just that -- loans. You're required to pay the money back. So, between your mortgage and your SBA loan, you could end up owing a lot more on your property than it's worth.

Before you make a decision

Now that you've considered some pros and some cons, ask yourself the following questions:

• Do I live in a high-risk area? Most homeowners tend to downplay the risks they face, even if they're living directly above an earthquake fault or on the beach of an East Coast state.

Coastal states from Texas to Maine are most at risk for hurricanes, as is Hawaii. People who live west or just east of the Rockies are at earthquake risk, as are those in Alaska, New England and near the New Madrid fault area along the Mississippi River. Floods can happen just about anywhere.

• Have I really weighed the potential costs? To be flip: It takes only one natural disaster to ruin your whole day -- and your finances.

Insurance is designed to protect you against financial setbacks you couldn't easily recover from on your own. Clearly, most people couldn't pay for a new house out of pocket.

• Have I set up an emergency fund? If you can get your hands quickly on a lot of cash, you may decide to forgo insurance.

Getting a home-equity line of credit is one option, if you have plenty of equity and can coax a gun-shy bank into extending you the credit. The time to get such a loan is obviously before disaster strikes. The appraisal might not go so well after your house is flattened.

If you opt for this route, you'll want the line of credit to be big -- big enough to rebuild your house.

Not sure how much that is? Spend $7.95 and 20 minutes at AccuCoverage to get a realistic estimate. (This is a good idea whether you opt for disaster insurance or not, since most people don't have enough regular homeowners insurance. For details, read "Is your home underinsured? 8 key points.")

• Have I invested in mitigation? Homes both new and old can be fortified substantially with some special construction measures. And truth be told, this is what many earthquake experts do, rather than pay expensive premiums for earthquake insurance.

The type of home you have affects your risk. One-story homes that are "tied together" -- with the roof bolted to the walls and the walls to the foundation -- tend to survive earthquakes and windstorms better than multistory homes that aren't. Likewise, houses with big openings, such as plate-glass windows or large garage doors, fare worse than ones without those features.

"Fortified . . . for safer living," a program of the Institute for Business and Home Safety, specifies building techniques that can help homes better withstand disaster. The institute estimates these safer-building methods add about 10% to the construction cost of a new house. But the higher price may purchase much less damage if disaster strikes.

• Am I prepared to walk away? If you don't have much equity in your home, and you have no ethical qualms about reneging on your mortgage, you could simply plan to hand your house keys back to your lender if a natural disaster leaves your home a pile of rubble.

That's the option many homeowners took in hard-hit Northridge, Calif. As is typical after a disaster, foreclosures spiked in the area after the 1994 quake damaged thousands of homes (and, ultimately, many credit reports as well).

Because foreclosures are now spiking nationwide, and nearly one of every six homeowners is "underwater" -- owing more on a mortgage than the property is worth -- the incentive for many to buy disaster insurance has disappeared.

If you have lots of equity, though, and your home represents a big chunk of your net worth, the scales start tilting heavily toward the need to pay up for extra insurance coverage.

That's what my husband and I ultimately decided to do. Living in California, we've seen firsthand what an earthquake can do to a home. We don't enjoy writing that check for earthquake insurance every year, but it does buy us something of substantial value: peace of mind.

Liz Pulliam Weston is the Web's most-read personal-finance writer. She is the author of several books, most recently "Your Credit Score: Your Money & What's at Stake." Weston’s award-winning columns appear every Monday and Thursday, exclusively on MSN Money. She also answers reader questions on theYour Money message board.

Updated July 14, 2009

< previous |  1 | 2 |