Definition - What does Underinsurance mean?
Underinsurance is inadequate insurance coverage. In other words, it does not cover the full value of potential claims. So, in the event of a claim, the policyholder may suffer financial loss as the damages would exceed the amount the insurance company would pay out. Although underinsurance means lower premiums, the direct economic loss resulting from a claim may far outweigh the initial savings.
Insuranceopedia explains Underinsurance
In some cases, underinsurance may make sense. For example, a person who lives in an area that rarely experiences tornados may opt out of coverage for it or choose minimal coverage for this peril in their homeowners' policy. At the same time, underinsurance could lead to serious financial issues, but this depends on the asset and the extent that damages exceed the coverage amount. For instance, a fire destroys a home with $150,000 of coverage and a $10,000 deductible, and the replacement costs amount to $250,000. This means the homeowner has to pay a total of $110,000 using their own resources.