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Understanding Depreciation, Actual Cash Value, and Replacement Cost

Posted by Morgan Graning on 12, Jan 2017
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DepreciationBlog.pngWhat's on your "hot list" to read this month? If we had to guess, we'd bet your insurance policy probably didn't make the cut. After all, it's filled with confusing terms that are intimidating to even the most seasoned reader. However, there are several important terms in your policy you should become familiar with that have the power to impact your coverage in a big way:

  • Depreciation
  • Replacement Cost
  • Actual Cash Value

According to CFM Claims Manager, Scott Lightfoot, many policyholders don't know what type of policy they have until the time comes to file a claim, which can make for a complicated claims process. To understand your insurance policy, join us for an insurance terminology take down with the help of Lightfoot, who has ten years of experience in the insurance industry.


Over time, your dwelling and most of its contents lose value due to a variety of factors like age and natural wear and tear. This devaluation is referred to in the insurance world as depreciation.



"When you file a claim on a replacement cost policy, depreciation is the amount that is withheld from the claim payment and can be recovered once the work is completed," explains Lightfoot. "If you have an Actual Cash Value (ACV) policy, the depreciation that is withheld is non-recoverable."


Lightfoot uses a standard depreciation guide to determine the life expectancy of materials when working through a claim.


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"Personal property such as electronics, appliances, and clothing are common items that depreciate pretty heavily each year due to a shorter life expectancy. In contrast, shingles on a house depreciate at a much slower rate, depending on the age and condition."


Actual Cash Value (ACV)

The initial payment reimbursed to a policyholder after they file a claim is for the Actual Cash Value (ACV) of their damage. Lightfoot explains further,


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"That payment covers the value of the damage the day of the loss, after depreciation is withheld. With ACV policies, policyholders must only expect to get paid for what their items or property are worth today, not what it cost when they originally bought it or what it will cost to replace it now."


Many seeking insurance sign up for an ACV policy because it's more affordable. However, Lightfoot warns this cost savings upfront can lead to larger expenses in the future. 


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"ACV policies are cheaper because they reflect less coverage. Depending on how much coverage you want, paying a little extra in premium to get a more substantial payout after a loss may be worth it in the long run."


Replacement Cost 

Replacement cost is the amount of money it takes to replace what's been damaged in the claim, less the deductible.


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"With a replacement cost policy, policyholders will only be out their deductible, whereas, with an ACV policy, they'll be out their deductible and the depreciation," says Lightfoot. "We calculate replacement cost as the initial amount you paid for the item. If the item you bought is no longer available, we will replace it with a comparable item. For example, if your Dell computer gets destroyed in a fire and Dell no longer makes computers at the time of your loss, we would find a comparable brand that has the same features and price as your destroyed Dell, and pay you for that item."


Lightfoot also notes that the market plays a huge part in determining what cost actually gets paid out to the policyholder:


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"We owe like, kind, and quality to the extent practical on a replacement cost policy. If you had a 32" TV at the time of your loss, we owe you for a 32" TV. Any upgrades to items replaced would be at the expense of the insured."


FiguringReplacementCost.jpgMake Sure Your Policy Works For You

If you're not sure whether you have replacement cost or ACV, check the Declaration page of your insurance policy. It will state what type of policy you have, along with breaking down your coverage. Meeting with your agent annually to go over your coverage and policy type can be helpful in determining whether or not your current policy works for you. When it comes to which policy type is generally more beneficial than the other, Lightfoot's pick is simple:

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"Being in this business for as long as I have, I've learned a lot about the different types of policies and if I had to recommend one, it would be a replacement cost policy. I feel like in a claims scenario, it's the better option simply because you are guaranteed to get what it costs to replace your damage, not a depreciated value."

To find out if you qualify for a replacement cost policy, contact your CFM agent. 

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Topics: General Tips

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