1. Forms
2. HO
3. HO-04-56

What the Form Is

The HO 04 56 Special Loss Settlement endorsement is designed to modify the standard loss settlement conditions found in homeowners insurance policies like the HO 00 02, HO 00 03, and HO 00 05. Typically, to receive full replacement cost for a damaged dwelling, homeowners policies require the dwelling to be insured for at least 80% (or sometimes 100%) of its full replacement cost. This endorsement allows the insured to carry a lower percentage of insurance to value—such as 50%, 60%, or 70% of the replacement cost—and still be eligible for replacement cost settlement on partial losses to the dwelling or other structures. If the amount of insurance carried at the time of loss is less than the agreed-upon percentage, the loss settlement will typically revert to Actual Cash Value (ACV).

Classes of Business It Applies To

This endorsement is used in personal lines for homeowners insurance. It is particularly relevant for:

• Older Dwellings: Homes where the current market value is substantially lower than the cost to replace the structure with new materials. For example, an older, well-maintained home in a neighborhood with depressed property values.
• Unique or Historic Homes: Properties constructed with materials or methods that are expensive to replicate today, leading to a replacement cost that far exceeds what a buyer might pay for the home.
• Financially Constrained Insureds: Homeowners who cannot afford or choose not to pay premiums for insuring their home to 80% or 100% of its replacement cost, especially if no lienholder requires it.
• Insureds Averse to Full Insurance-to-Value: Individuals who understand the implications and prefer to insure for a lower amount while still seeking replacement cost for smaller, partial damages.

Special Considerations

• Partial vs. Total Loss: It's crucial to understand that this endorsement primarily benefits the insured in a partial loss scenario. In the event of a total loss, the maximum payout will be the policy limit (the selected lower percentage of replacement cost), which could be significantly less than the actual cost to rebuild the entire home.
• Lender Requirements: Mortgage lenders often require homeowners to maintain insurance coverage at 80% or 100% of the dwelling's replacement cost. The use of HO 04 56 might not be permissible if it violates the terms of the mortgage agreement.
• Company Underwriting: Insurers have specific underwriting guidelines regarding when and for what types of properties this endorsement can be used. This includes minimum dwelling coverage limits.
• Ordinance or Law: The loss settlement under this endorsement typically does not include the increased costs associated with the enforcement of any ordinance or law regulating construction, repair, or demolition, except as may be provided by the base policy's Ordinance or Law additional coverage.
• Alternative Endorsements: Other options like Functional Replacement Cost (HO 05 30) or an Actual Cash Value (ACV) Loss Settlement Endorsement (HO 04 81) might be more suitable depending on the specific circumstances and the insured's needs. For example, the HO 05 30 allows repair or replacement with less costly, but functionally equivalent, materials.

Key Information for Agents and Underwriters

• Pricing: The premium for the policy may be adjusted, or an additional premium may be charged when this endorsement is added, reflecting the modified loss settlement terms.
• Risk Assessment: This endorsement can be a tool to manage moral hazard in cases of older homes with high replacement costs but low market values, as it reduces the incentive for an insured to intentionally cause a loss to collect a high replacement cost payout. However, it also means the insurer agrees to replacement cost settlement on a dwelling that is, by traditional standards, underinsured for partial losses.
• Client Communication: Agents must clearly explain the implications of this endorsement to the insured, particularly the difference in payout for partial versus total losses and the potential shortfall in a total loss situation. Documenting this conversation is advisable.
• Underwriting Diligence: Underwriters should carefully evaluate the property's characteristics, the rationale for requesting the endorsement, and ensure that the agreed-upon percentage accurately reflects a reasonable valuation for the intended coverage. The replacement cost estimate itself should still be accurate.
• Avoiding Coinsurance Penalties (for partial losses): The primary benefit is that if the insured maintains the agreed-upon lower percentage of coverage (e.g., 60% of RC), they avoid a coinsurance-like penalty on partial losses and receive replacement cost up to the policy limit. Without this endorsement, insuring at 60% when 80% is required would likely result in an ACV settlement or a penalized replacement cost settlement for all losses.