Here's What Happens if Your Homeowners Insurance Company Fails

Your state guaranty association can help.

Investing in homeowners insurance is a must for all homeowners. Unfortunately, sometimes even the most reliable companies can fail. When this happens, your coverage is no longer valid and you may be left wondering what steps to take next. Fortunately, all states have a guaranty association that can step in when an insurance company fails. Let's take a closer look at how this works.

How a guaranty association can help you

The state guaranty association was created to protect homeowners in the event their insurance company fails and becomes insolvent. It acts as a safety net to help policy holders. In the past, if an insurer failed, the policyholder or claimant had to file a claim in the liquidation proceeding. Any assets from the bankrupt insurer would be divided among thousands of creditors and claimants. These proceedings usually took years and rarely resulted in the payment of most claims.

To address these issues, each state created a guaranty association. The duties of the guaranty fund are to step in and pay claims in accordance with the policy's terms and conditions when a licensed insurance provider fails. The guaranty association will review your policy and determine if you are eligible for compensation for any unpaid claims before the company failed. In most cases, the guaranty association will pay up to $500,000 per claim and $1 million total per policyholder -- however, these limits vary from state to state.

How do you file a claim?

Just as the FDIC steps in for bank failures, these guaranty associations step in when a property and casualty insurer fails. The guaranty association will first try to rehabilitate the insurer and try to return the company to solvency. If this fails, the insurer is placed into liquidation, where its assets are sold off to pay claims. Each claimant receives a proof of claim form to substantiate their case, which is then thoroughly vetted for validity and paid by the guaranty association.

It's important to note that not all claims will be eligible for compensation from the state guaranty association -- only those that were made before the company failure date are eligible for reimbursement. Additionally, some types of policies (such as flood or earthquake policies) may not be covered by the guaranty association at all. To find out if your claim is eligible for reimbursement, contact your state's department of insurance or visit its website for more information on filing a claim with the guaranty association.

All 50 states have a guaranty association in place to cover any claims should a property and casualty insurer fail. Each association assesses their members, typically all licensed insurers, to cover their expenses.

How to avoid financially unstable insurers

It is important to check the financial strength of the home insurance company before you decide on an insurer. The credit rating agencies look at an insurer's overall finances, management stability, recent performance, and other factors. You should check the ratings of each agency since their evaluations may differ. There are five rating agencies and each have their own rating scale and standards:

• AM Best rates companies on a scale of A++ to D-
• Fitch rates companies on a scale of AAA to D
• Kroll Bond Rating Agency rates companies on a scale of AAA to D
• Moody's rates companies on a scale of Aaa to C
• Standard & Poor's rates companies on a scale from AAA to D

The bottom line is that having a reliable homeowners insurance provider is essential for protecting yourself against unexpected disasters and damage -- but what do you do when that provider fails? By understanding how guaranty associations work, you can rest assured knowing that there are measures in place to protect yourself and your family should your insurer fail. It's always best to research options before buying homeowners insurance, so you have greater peace of mind.