When your self-directed IRA or Solo 401(k) plan owns investment real estate, you of course want to have insurance to protect your plan from risk. The difference between insurance and the right insurance can be significant, however, so making sure the coverage you obtain properly protects your plan for the type of investing you are doing is critical.
Owning properties in a self-directed retirement plan is different than owning in your own name, and comes with some special considerations. Following are some of the things you may want to consider as you shop for insurance initially or as you perform a periodic review of your current coverage.
Insuring the Proper Entity
With a Checkbook IRA or Solo 401(k), it is important to have the plan entity as the named insured. While you have administrative control over the IRA owned LLC or Solo 401(k) trust, you are not the insured party. Be sure your LLC or 401(k) trust is the named insured entity on your policy to guarantee full and proper coverage for your plan.
We have seen many retail, homeowner-focused insurance agents try to provide policies where the client is the named insured and the IRA LLC or 401(k) trust is listed an as additional insured or loss-payee on the policy. This may not provide the full level of coverage required.
Always carry as much liability protection as you can afford. $1,000,000 per occurrence is widely accepted as a minimum in the industry. As your portfolio grows, so does the amount of coverage you will want to carry. There is a normally a minimal premium charge to double liability protection. A separate umbrella policy for your plan is a method to provide liability coverage beyond the standard $1,000,000 or $2,000,000 limits.
Replacement Cost vs. Actual Cash Value
Hazard loss coverage is generally offered either for replacement cost or actual cost value. The amount you receive in the event of a significant casualty event can vary dramatically depending on the age and condition of the property and other factors. Be sure you understand the potential cost-benefits of each option and choose the method that will best protect your plan in the event of a major loss.
Other Structures and Personal Property Coverages
Be sure that the coverage you obtain provides the full level of protection you need. Some policies will automatically cover additional structures like garages and sheds, but others may not. In addition to insuring the real property, you may also have a need to ensure personal property such as small appliances. Always check with your agent and be sure you understand what is covered and what is not.
Ordinance and Law Coverage
Having Ordinance and Law coverage can provide huge savings in the event you need to rebuild a property after a major casualty. This coverage provides protection for additional costs necessary to bring your damaged property “back to code”, as it is repaired from a loss. Over time, building codes change. Most properties are generally “grand-fathered” to allow for non-compliant issues to remain in place. However, in the event of a major remodel or rebuilding of a property, it will need to be brought up to date to meet current code requirements. Hard-wired smoke detectors, fire sprinklers, and handicapped accessibility are common examples. In a policy without Ordinance and Law endorsement, such additional work is not covered.
Loss-of-rents, or Business Income Coverage
This policy feature provides coverage for your lack of rental income if tenants are forced from the property due to a covered loss. Some policies include such coverage to a certain time limit, such as 12 months. In some cases, loss-of-rents may be a separate endorsement with options to purchase at specific levels of coverage. This is protection all rental property owners should have.
Tenant Occupied vs. Vacant Property
Most landlord policies will provide coverage if a property is tenant occupied, or for a brief period such as 30 days of vacancy between tenants. If a property will be vacant for longer periods of time, such as during a rehab of a newly acquired property, you may need to alter your policy to have valid coverage.
Simply stated, the higher your deductible, the lower your premium. If your plan owns multiple properties, and units are insured under separate policies, the deductible will apply, per location. With a “package” or “blanket” policy, the deductible usually applies per occurrence. This could be a big difference, out-of-pocket, in the event of a local catastrophe such as a tornado, flood or earthquake.
Earthquake, Water Backup, and Flood Coverage, etc.
Certain catastrophic types of losses are not covered by default on most policies. You may need to gain such coverage through endorsements. Make sure you understand what types of special coverage you may or may not have, and how such coverage will apply in the event of a claim. This will ensure you can make an educated decision on whether you should have any or all of these coverages.
Conduct Periodic Insurance Reviews
You should make a habit of meeting with your insurance agent at least annually to ensure your policy provides adequate coverage for your current needs. If you have added several new properties to your portfolio, you may want to increase your liability coverage, for example. If you will be conducting an extensive rehab of a property and it will be vacant for an extended period of time, you will want to adjust to proper coverage.
Work with A Real Estate Investor Focused Insurance Agency
Insurance is a broad field. An office or agent that specializes in insurance programs for real estate investors will be able to provide you with much better guidance as you select and design a policy than someone who’s real focus is homeowner or auto policies. To be sure your policy provides the right kind of coverage for your specific needs, work with an expert familiar with what those needs are.
Thanks to Tim Norris and his team at National Real Estate Insurance Group for guidance on this topic.