Do you need disaster insurance?

The costs and benefits of disaster coverage are tricky to analyze. Weigh these big pros and cons, plus the specifics of your home, your location and your finances.

The housing crisis has created vast numbers of homeowners who might reasonably forgo disaster insurance, including:

• People who are losing their homes to foreclosure.

• Those who owe more on their homes than the homes are worth.

Of course, the decision not to buy insurance for earthquakes, floods, hurricanes and other natural disasters isn't always conscious. Some homeowners don't realize they're not covered.

But many others, faced with high premiums and policies with limited coverage, gamble that they won't need insurance help to rebuild after a disaster.

So is going bare a smart choice or a dangerous one?

I wish I could offer a concrete answer. Usually I'm a hard-liner when it comes to insurance. As I've written before, in columns such as "3 costly myths about insurance," insurance is best used to protect ourselves against uncommon but financially devastating events, and natural disasters certainly qualify.

But in this case, the cost-benefit analysis is trickier than usual. Sometimes the price of catastrophic insurance is chokingly high while the risk remains remote. My husband and I, living in Southern California, have struggled mightily with this issue ourselves.

The answer for us, and for anyone, depends on three factors: your location, your financial situation and your comfort with risk.

The key is to make an informed choice. And I'm here to help you with that.

1 size does not fit all

First, you need to know what disasters your homeowners insurance does and doesn't cover adequately. A review of your policy and a chat with your insurance agent should alert you to any gaps.

Where you can buy extra coverage depends on the location of your home and the particular catastrophe you're trying to protect against. This is where things get a touch complicated. Earthquakes and floods, for example, aren't covered by standard homeowners policies. If you live in an area that's prone to other natural disasters, such as hurricanes, tornadoes or hailstorms, your homeowners insurance may not cover damage from those calamities, or it may limit the coverage you have.

Here's where you can get the more common types of disaster coverage:

• Earthquake coverage in most states can be purchased from your homeowners insurance company. In California, most policies are sold by a state-run insurance pool, the California Earthquake Authority, although a few private companies also sell earthquake coverage.

• Flood insurance is typically provided by the National Flood Insurance Program, which is run by the federal government, although a few private insurers also provide policies. The federal program provides coverage of up to $250,000 for the structure of the home and $100,000 for personal possessions. In areas prone to floods, your mortgage lender may require you to buy the coverage.

• Hurricane and other windstorm insurance varies by state and sometimes by county. Several states, including Alabama, Florida, Georgia, Louisiana, Mississippi, North Carolina, South Carolina and Texas, offer windstorm coverage pools for people who can't get private coverage. Residents of some coastal counties in Georgia and New York can get wind and hail coverage through FAIR (Fair Access to Insurance Requirement) Plans, which are high-risk pools run by state insurance regulators in conjunction with private insurers. Your insurance agent or state insurance department will have more details.

5 reasons to skip it -- and 3 not to

Once they find coverage, homeowners still may forgo it. The most common reasons are these:

• "It's too expensive." Disaster coverage can indeed be pricey. The average premium is about $500 a year for flood insurance, although policies start around $120. A windstorm policy might cost hundreds of dollars a year for $100,000 of coverage, or many times that for coastal homeowners. Earthquake insurance can range from a couple of hundred dollars to several thousand dollars a year.

• "The deductibles are too high." This is particularly the case for earthquake insurance, which typically has a 10% to 15% deductible. That means you have to pay the first $20,000 to $30,000 of damage on a home insured for $200,000 before your coverage would kick in. Deductibles are usually 2% for windstorm coverage (or $4,000 on a $200,000 home), although they range from 1% to 15% of the insured value of the house. Federal flood insurance comes with a much lower deductible, $500 to $1,000.
• "The coverage is too limited." Bare-bones California Earthquake Authority policies, for example, cover only $5,000 in damage for all the contents of your home and don't cover swimming pools, landscaping or outbuildings. Additional coverage can be purchased for a higher premium.

• "It's not mandatory." As noted, if you live in a high-risk area for flooding, your mortgage lender will insist you buy flood insurance. (Ask to see the latest flood plain maps, though.) Otherwise, catastrophic coverage typically isn't a requirement for getting a home loan.

• "The government will help us out." After a major disaster, the Federal Emergency Management Agency provides small grants for emergency repairs and temporary housing, and the Small Business Administration offers low-interest loans for rebuilding. In fact, if you have insurance, your ability to get government help may be limited. Grants are usually reserved for those who are uninsured, and loans are restricted to amounts that your insurance doesn't cover.

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.