What Is Parametric Insurance?

Parametric insurance is a simple type of insurance that pays out based on whether or not a specific event, such as a natural disaster, occurred. For homeowners, parametric insurance can be a useful tool for protecting themselves in the event of natural disasters, particularly if they live in a high-risk area.

How does parametric insurance work?

Unlike most types of insurance, which reimburse you for the cost of damage (such as windstorm damage to your home), parametric insurance pays out if a specific event occurs — regardless of whether or not any damage occurred.

If you live in an earthquake-prone area, for example, you could purchase a parametric insurance policy that pays out $10,000 if an earthquake measuring more than 5.0 on the Richter scale occurs where you live. And if such a large earthquake occurs, you will receive the money automatically, regardless of whether your home sustains $10,000, $100,000, or no damage at all.

Life insurance is another common type of parametric insurance. The payout for those policies is determined by whether or not the named person dies.

The majority of metric insurance policies include some form of measurement. For an earthquake, it would most likely be the magnitude of the earthquake as measured on the Richter scale by the US Geological Survey. It could be a number of hours or days that your flight is delayed, as determined by the airline. If the number is met, you are paid; otherwise, you are not paid.

How parametric insurance is different from home insurance

The main advantage of a parametric insurance policy over standard homeowners insurance is that you can purchase a policy for a variety of events that would not be covered by a standard homeowners insurance policy, such as flooding or volcanic activity. You can also use parametric insurance to protect yourself from things that have nothing to do with your home, such as unexpected delays while traveling.

Another advantage of parametric insurance is the speed with which claims can be paid. A typical homeowners insurance policy requires you to have an adjuster inspect your home, get estimates from contractors, and, in some cases, have the work completed before you will be fully reimbursed. A parametric policy, on the other hand, will pay you as soon as your insurer can verify the event occurred. This means that payouts take days or a few weeks rather than months.

Parametric insurance vs. homeowners insurance

This is especially useful in large-scale disasters, where hundreds or thousands of concurrent claims can clog the claims system and cause months of delays.

Because metric insurance policies do not have deductibles, exclusions, or adjusters to determine the extent of the damage, filing a claim is a simple process.

When should I consider parametric insurance?

When you can't get adequate coverage from another source or you need your payout quickly, parametric insurance comes in handy.

When you can't get coverage elsewhere

Homeowners whose properties are extremely vulnerable to damage from a specific peril may be unable to obtain a standard homeowners insurance policy, or may only be able to obtain one that excludes that peril. For example, homeowners in California may be unable to obtain protection from wildfires, and coastal Florida residents may be unable to obtain protection from hurricane wind damage.

Other perils are not covered by insurance or are only covered by very expensive add-on policies. Volcanoes and earthquakes are examples of this.

In each of these scenarios, you would most likely be eligible to purchase a parametric insurance policy to help protect against losses.

When you need payment fast

A parametric insurance policy may be beneficial if you are concerned about the speed with which you will receive a claim payout. Assume you live in a hurricane-prone area and your roof is damaged by a storm. Even if your policy covers wind damage, getting an adjuster to come out and inspect your claim and then having your roof repaired could take weeks or months.

If, on the other hand, you have a parametric policy that pays out whenever a Category 3 or higher storm occurs, you would be paid shortly after the incident occurred.

Given the additional cost of parametric insurance and the fact that you're almost certainly required to have regular homeowners insurance anyway, it's usually best to have a smaller policy of only a few thousand dollars to act as a stopgap before your regular home insurance kicks in.

To help meet a high deductible

Some parametric insurance policies work in conjunction with your standard homeowners insurance to assist you in meeting your deductible. This is a common use-case for homeowners whose properties are vulnerable to a specific type of damage, such as floods, earthquakes, or hurricanes.

For example, you may have a $2,000 regular deductible on your homeowners insurance policy but a $20,000 hurricane deductible. A hurricane-linked parametric insurance policy could assist you in meeting your deductible without having to pay it out of pocket.

When not to get a parametric insurance policy

Parametric insurance is not a one-size-fits-all replacement for a standard homeowners insurance policy. When you purchase parametric insurance, you are only protected against one very specific event and only if certain criteria are met.

While standard homeowners insurance covers a wide range of damage sources, each parametric policy only covers one. You'd need three separate policies to protect yourself against fire, theft, and wind damage, but all of these perils are covered by a single homeowners policy.

Furthermore, any homeowners insurance requirements you have, such as those imposed by a homeowners association (HOA) or if your mortgage requires a policy, are unlikely to be met by parametric insurance.

How do I get parametric insurance?

Because it is a relatively small market compared to standard homeowners insurance, obtaining a parametric insurance policy may be more difficult than obtaining a standard homeowners policy.

You may need to contact an insurance agent to have the policy designed for you, depending on the type of policy you want to purchase.

However, you may be able to get a quote online for some more common types of parametric insurance. StormPeace, for example, sells online parametric insurance in Florida that pays out if a hurricane occurs. To purchase a policy, simply provide your location and the amount of coverage you require.

If you have homeowners insurance that includes hurricane damage, you can only purchase coverage up to the amount of your hurricane damage deductible. If you do not have hurricane insurance, you can purchase up to $60,000 in coverage.