Maybe
you’ve spoken to your insurance agent and they’ve mentioned some sort of loss
valuation, such as actual cash value. My
assumption is you left that discussion thinking, “Great! My loss will be paid.” But what does this actually mean? When it
comes to loss valuations, there are three common valuations: actual cash value,
replacement cost and extended replacement cost.
Let’s break these down…
Actual
Cash Value
Actual
cash value provides the least amount of coverage in most cases. Actual cash value is replacement cost minus
depreciation. I’ll go into replacement
cost in a second, but depreciation is whatever percentage that your items,
homes, cars, etc. are said to lose in value each year, just because they’re a
year older and their “useful life remaining” is coming to an end. Thus, if you have items that appreciate in
value or don’t lose any value, you may not end up with a settlement that you
like.
Let
me give you an example – In the type of clients that I work with on a day to
day basis, they like their cars. I have
many clients with collector Aston Martins or Ferraris. The idea of this is that these vehicles appreciate
in value and if they hold them for a couple years, they’ll come out with more
money than they invested in the car in the first place. For easy round numbers, let’s say a car was
purchased in 2008 for $100,000. Now, it’s
2014 and there is a total loss because the driver lost control of the car. In 2014 the car might cost $120,000 to
purchase, but because it is now 4 years older there might be a depreciation of
$40,000. Thus, the loss settlement will
be $80,000 and you will not be able to replace the car. Obviously, this is a generic example, but
this happens often when it comes to homes.
Replacement
Cost
Replacement
Cost is pretty simple. The valuation
would be what it would cost to replace the item with a similar item today. There is no “depreciation” taken into
account, because the item might be more or less to replace today depending on
what it is.
Here’s
another example for you – I have an iPad that was purchased for $500 in
2010. In 2013, there is a fire in my
home and the iPad is completely damaged.
I find my same iPad purchased in 2010 for $200 because it is three years
later and other, newer models have come out.
My insurance company will give me the $300 to replace it.
In
the example above regarding the high end vehicle, in 2014, the insurance
company would likely pay up to $120,000 (depending on how the contract reads)
or the limit shown on the policy if it is less than $120,000.
Extended
Replacement Cost
Extended
replacement cost is similar to replacement cost, but it is not capped at the
limit shown on the policy.
Here’s
my last example for you – I purchase a beautiful $500,000 home, my dream home,
which I insure for $500,000 with extended replacement cost. Being on the gulf, we see hurricanes from
time to time. Well, a hurricane sweeps
through and takes out my beautiful home.
I’m devastated, but I have extended replacement cost. What this means is the other costs associated
with my home, that didn’t come along with the previous owner such as debris
removal, cost of labor increasing, cost of materials increasing (all because
most of the other homes in my neighborhood were also destroyed), are now
relevant. So a year and a half and
$700,000 later, my home is back standing.
The insurance company paid out that total $700,000 even though my policy
only showed $500,000.
If
we go back to our first example regarding the high valued vehicle, we would be
able to add in other costs that go with obtaining the vehicle, even though the replacement
cost is set at $120,000. This would
include things like delivery charges, taxes, etc. So maybe in reality, it costs $135,000 with
all those extra costs and this valuation would pay that amount.
Not
all companies offer extended replacement cost and the ones that do will want to
go to your home, or see an appraisal or bill of sale for your item in order to
verify their valuation is correct. But,
if your company offers it, it’s definitely the broadest loss valuation.
Another
challenge for you… Check out your policy, talk to your agent. The last thing you want is to find out which
of these loss valuations your policy uses when you have a loss. Insurance contract surprises are not good at
the time of loss.
