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Homeowners insurance is not quite as simple as paying each month and then, if something bad happens, the insurance company will automatically cover it all. Generally speaking, you’ll still be on the hook for a certain amount of money if and when the time comes to file a claim. That amount is called your homeowners insurance deductible, and you do get some leeway when it comes to choosing it.

Here’s what you need to know about homeowners insurance deductibles, and how to decide on an amount that’s right for you.

What Is a Homeowners Insurance Deductible?

A homeowners insurance deductible is the amount of money you’ll pay out of pocket when you file a claim for damage repair or replacement. In other words, it’s your portion of the responsibility for the expense.

For example, say your home weathers a windstorm and sustains roof damage to the tune of $10,000. If your deductible is $1,000, you’ll pay that much toward covering the repair cost, and the insurance company will pay the remaining $9,000.

Keep in mind that your deductible is distinct from your insurance premium, which is the amount you pay on a monthly, quarterly or annual basis, regardless of whether or not you’re filing a claim, to keep the policy active.

Types of Homeowners Insurance Deductibles

Homeowners’ insurance deductibles can be calculated in a variety of different ways. The two most common are flat deductibles and percentage deductibles.

Flat Deductible

A flat deductible, as its name suggests, is one that’s charged as a flat fee regardless of the full price of the damage. In our roof damage example above, the flat deductible is $1,000.

Indeed, $1,000 is a pretty standard deductible for those who choose a flat homeowners insurance deductible, though lower deductibles ($500) and higher deductibles ($2,000) are also available. Of course, like any other insurance product, the lower your deductible is, the higher your monthly premiums will be — and vice versa. It’s important (and often challenging!) to strike a balance between ample coverage and affordability.

Percentage Deductible

Percentage deductibles are those that are assessed as a percentage of the total insurance coverage amount on your home.

For example, if your home is covered for up to $350,000 and your deductible is 1%, you’d be on the hook for up to $3,500 if you filed a claim. Percentage deductibles tend to start around 1% and go up to 10% of the total home coverage value. The higher the percentage, the lower your monthly premiums — but consider that even 3% of that $350,000 total is $10,500. Again, it’s a balancing act.

What Is a Disaster Deductible?

It’s important to bear in mind that standard homeowners insurance policies don’t cover everything. Generally, eligible claims are limited by the named perils in your policy document — perils that include vehicular damage, theft, falling objects, and many other occurrences, but not major disasters like earthquakes, hurricanes and floods.

If you live in an area prone to these events, you’ll likely need to purchase additional insurance coverage specifically in case they occur — and the deductibles for these disasters work a little differently than standard homeowners deductibles do. Always review your insurance paperwork to ensure you know exactly how your policy works, but here are some general rules around what you might expect when it comes to disaster deductibles.

•  Hurricane deductibles may be a reality in your life if you live along the Atlantic coast, especially in states like Florida and Louisiana that are very prone to these massive storms. It’s complicated, though, because most standard homeowners insurance policies do cover some amount of wind and storm damage — so the deductible you’ll be responsible for will depend on how the insurance company assesses and documents the damage. In many cases, hurricane insurance requires policyholders to have a percentage deductible rather than a flat deductible, which could mean higher out-of-pocket expenses if extreme damage occurs.

•  Wind damage deductibles may apply to those who live in Tornado Alley and other areas that frequently experience extreme windstorms. Similar to hurricane insurance, most standard homeowners policies do include some wind damage coverage, so your experience will depend on how the damage is coded by the insurer. This type of insurance is another where the deductible is typically paid in a percentage (usually 1%-5% of the total home insurance coverage value).

•  Flood insurance deductibles vary by state and insurance company, and you’ll likely be able to choose between a flat deductible and a percentage deductible. Even if you don’t think you live in an area that’s particularly prone to floods, you might consider purchasing this additional insurance, which is not included in most standard homeowners policies. According to the Insurance Information Institute , approximately 90% of natural disasters in the United States involve flooding, which can cause catastrophic (and very expensive) damage quickly.

•  Earthquake insurance deductibles vary depending on your state and location, but are another that is paid by percentage — a percentage that might be as high as 20% of the replacement value of your home. States with high earthquake risks may set a minimum deductible of 10% of the home replacement value, which is expensive… but a lot less expensive than rebuilding the whole home yourself out-of-pocket, which you might just have to do in the case of a serious earthquake.

Recommended: Is Homeowners Insurance Required to Buy a Home? 

How to Choose the Right Deductible

Now that we’ve covered different homeowners insurance deductibles, we come to the fun (or not-so-fun) part: how do you figure out which type and level to choose?

Understanding How Your Deductible Affects Your Premium

As with all insurance products, the basic equation comes down to how much you can afford to pay on a regular, ongoing basis versus how much you might be able to afford to pay in the event you need to file a claim.

Higher deductibles mean lower premiums, but more out-of-pocket costs when something goes wrong. On the other hand, higher premiums might be harder to keep up with month to month but mean that in the event of a disaster, you’re more likely to have fuller coverage.

Keep in mind, too, that your home is likely to be your single largest asset; losing it (or seeing its value depreciate steeply) could quickly decimate your overall financial wellness and net worth. For that reason, it’s usually a good idea to opt for fairly substantial homeowners insurance coverages, even if you’re not required to do so by your mortgage lender.

Recommended: Homeowners Insurance Coverage Options to Know

The Takeaway

A homeowners insurance deductible is the amount of money the insured is responsible for in the event that a claim is filed. It’s separate from the premiums the insured party pays to keep the policy active. However, deductibles and premiums are related: generally speaking, the higher the deductible, the lower the premium, and vice versa.

Pretty much all types of insurance hinge on this monetary balancing act — but because of how financially catastrophic certain events can be, it’s usually worth paying overtime to ensure someone’s got your back if disaster strikes.

The same can be said of life insurance. SoFi has partnered with Ladder to offer our members term life insurance at affordable prices. Getting life insurance coverage can help take care of the people who matter most if something happens to you.

SoFi can help you get a life insurance quote in a matter of minutes.

Photo credit: iStock/Lordn

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Ladder, SoFi and SoFi Agency are separate, independent entities and are not responsible for the financial condition, business, or legal obligations of the other, SoFi Technologies, Inc. (SoFi) and SoFi Insurance Agency, LLC (SoFi Agency) do not issue, underwrite insurance or pay claims under LadderlifeTM policies. SoFi is compensated by Ladder for each issued term life policy.
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With most things in life, it helps to be covered — by a coworker, an insurance policy, or a roof over your head. In investing, it can also pay to be covered. When it comes to options contracts, a covered call is an option trading strategy worth knowing about.

Here’s all you need to know about putting together a covered call strategy, when to consider it, and how it may — or may not — pay off.

What is a Covered Call?

A covered call is an options trading strategy that opens up an additional avenue to generate income. In a covered call transaction, an investor sells call options on a security they own. This strategy can be beneficial to the investor if they don’t expect the value of the stock price to move much in either direction during the terms of the option.

Call Options Recap

A “call” is a type of option (you may be familiar with calls versus puts), that allows investors to buy shares of an underlying asset or stock at a specific, prearranged price, called the strike price. Usually, an investor dealing with call options holds a long position — that is, they think that the underlying stock is going to appreciate.

This opens up the opportunity to profit from their position. If you thought that a stock’s price was going to increase, you might want to buy that stock, hold onto it, allow the price to increase, and then sell it in order to generate a profit.

Call options allow investors to do more or less the same thing, but without having to buy or pay the full price for the underlying shares. Instead, a premium is paid for the right to execute the trade at the strike price.

What’s the Difference Between a Call and a Covered Call?

The main difference between a regular call and a covered call is that a covered call is “covered” by an investor holding an actual position. That is, if an investor sells call options on Company X stock, it would be “covered” if the investor actually owns, or holds a position, on Company X stock.

Conversely, if an investor does not hold a position on, or own any Company X stock and sells a call option, they’re selling a regular call option. This is also known as a “naked” option.

Example of a Covered Call

The point of selling covered calls to other investors is to boost your own investment income. If, for example, you have 100 shares of Company X stock, and were looking for ways to potentially increase your annual return from that holding, you could try selling covered calls to other investors.

Here’s what that might look like in practice:

Your 100 shares of Company X stock are worth $50 each: $5,000 total, at current market value. To make a little extra money, you decide to sell call options to your friend Harris, at a strike price of $70. Harris pays you $10 for the premium.

Let’s say that Company X stock’s price only rises to $60, and Harris doesn’t execute the option, so it expires. You keep the $10, plus your 100 shares. You’ve turned a profit of $10 selling call options, and your shares have appreciated to a value of $6,000. So, you now have a total of $6,010.

For all intents and purposes, the best-case scenario, for you, is that your shares rise in value to near the strike price, (say, $69) but Harris doesn’t exercise the option. In that scenario, you still own your shares (now worth $6,900) and get the $10 premium Harris paid you.

But the risk of buying call options is that you could lose out on bigger potential gains.

So, if Company X stock rises to $90 and Harris executes his option, you would then be obligated to sell your 100 shares to him, which are now worth $9,000. You would still get the $10 premium, plus the value of the shares at the predetermined strike price of $70 — netting you $7,010. Effectively, you’ve turned a holding valued at $5,000 into $7,010. Not bad!

On the other hand, had Harris not exercised his option, your shares could be worth $9,000. That’s the risk you run when selling covered calls.

Recommended: How to Sell Options for Premium

When and Why Should You Do a Covered Call?

There is no definite right answer in terms of the right time to use a covered call strategy — it involves weighing the risks involved and doing a bit of reading the tea leaves in terms of the market environment.

It’s generally best to write covered calls when the market is expected to climb — or at least stay neutral. Nobody knows what’s going to happen in the future, and investors might want to be ready and willing to sell their holdings at the agreed strike price.

As for why an investor might use covered calls? The goal is to increase the income they see from their investment holdings. Another potential reason to use covered calls, for some investors, is to offset a portion of a stock’s price drop, if that were to occur.

Pros and Cons of Covered Calls

Using a covered call strategy can sound like a pretty sweet deal on its face. But as with everything, there are pros and cons to consider.

Covered Call Pros

The benefits of utilizing covered calls are pretty obvious.

•   Investors can potentially pad their income by keeping the premiums they earn from selling the options contracts. Depending on how often they decide to issue those calls, this can lead to a bit of income several times per year.

•   Investors can determine an adequate selling price for the stocks that they own. If the option is exercised, an investor profits from the sale (as well as the premium). And since the investor is receiving a premium, that can potentially help offset a potential decline in a stock’s price. So, there’s limited downside protection.

Covered Cons

There are also a few drawbacks to using a covered call strategy:

•   Investors could miss out on potential profits if a stock’s price rises, and continues to rise, above the strike price. But that just goes with the territory. As does the possibility of an option holder executing the option, and an investor losing a stock that they wanted to keep.

•   An investor can’t immediately sell their stocks if they’ve written a call option on it. This limits the investor’s market mobility, so to speak.

•   Investors need to keep in mind that there could be capital gains taxes to pay.

The Takeaway

A covered call may be attractive to some investors as it’s an opportunity to try and make a little more profit off a trade. That said, as with all trading strategies, it may pay off in your favor, and it may not. There are no guarantees.

Calls, puts, and options trading can get complicated, and fast. That’s why it’s helpful if your options trading platform isn’t more complicated than it needs to be. SoFi’s options trading platform has an intuitive and approachable design. You can trade options from the mobile app or web platform, and reference the offered educational resources about options.

Trade options with low fees through SoFi.

FAQ

There are a lot of details and terms regarding options, and it can be hard to keep track of everything. Here are a few common questions about covered calls.

Are covered calls free money?

Covered calls are not “free money”. But covered calls can provide a boost to one’s investment earnings — though an investor does have to assume some risks associated with selling options.

The strategy is more of a game of risk and reward, and there’s always the risk that the strategy could end up backfiring, particularly if your stock’s value increases much more than you anticipated.

Are covered calls profitable?

They have the potential to be profitable: If you’re selling call options on your holdings, then you should be receiving a premium in return. In that sense, you’ve turned a profit. After all, the entire point of selling calls on your holdings is to increase your profits, too.

But how profitable the strategy is, and the risks involved, will depend on a number of factors, such as the underlying stock, market conditions, and the specifics of the call option.

What happens when you let a covered call expire?

If you’ve sold a covered call option to someone else and it expires, nothing happens — you keep the premium, and nothing changes.

Because an option is only that — an option to execute a trade at a predetermined price for a select period of time — the option holder’s reluctance to execute during the time period means that the option will expire worthless.

Can you make a living selling covered calls?

Living strictly off of income derived from covered calls is theoretically possible, but you’d need a big portfolio (against which to sell those options) to make it work. There are a lot of things to consider, too, like the fact that a lot of the income your covered calls do generate is going to be taxed as capital gains, and that the market isn’t always going to be in a favorable environment for selling covered calls.

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Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Options involve risks, including substantial risk of loss and the possibility an investor may lose the entire amount invested in a short period of time. Before an investor begins trading options they should familiarize themselves with the Characteristics and Risks of Standardized Options . Tax considerations with options transactions are unique, investors should consult with their tax advisor to understand the impact to their taxes.
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