Actual Cash Value vs. Replacement Cost: What's the Difference?

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When you buy an insurance policy, your coverage provides protection for your home and the items inside, up to your policy maximums. But did you know that for higher value items, you can get valuable personal property insurance? This important insurance provides protection for items that are valued over a certain amount.
One thing to look out for when purchasing a homeowner’s insurance policy is how your insurance company calculates the value of an item you have insurance on. Insurance companies calculate what they pay you for a lost, stolen, or damaged item based on either the item’s actual cash value or its replacement cost.

What Is the Difference Between Actual Cash Value and Replacement Cost Insurance?

The actual cash value of an item is determined by its original value minus any depreciation. Depreciation occurs as an item gets older and starts to suffer wear and tear. This wear and tear detracts from its original value, and in many cases, you usually can’t replace an item at its original value.
Replacement cost is how much it would cost to replace the item regardless of depreciation. So, if a covered item costs $100 to replace, that is how much the insurance company will pay you will if the item is lost, stolen, or damaged. Of course, payout amounts are subject to the maximum payout amount of your policy.

Coinsurance and Agreed Amount Endorsements

Insurance companies actually require their clients to carry a certain level of coverage on their property in order to receive a full reimbursement when filing a claim. Called the coinsurance formula, it goes into effect when a homeowner fails to maintain insurance coverage that is at least 80%, or more, of the value of their property.
A coinsurance clause is included in homeowner’s insurance policies to ensure that homeowners carry enough insurance to protect their property in case of damage or loss. Otherwise, the homeowner will have to share some of the burden of a loss.
One way around this is through an agreed amount endorsement. With an agreed amount endorsement an insurance company agrees to waive the coinsurance clause of a specific piece of property. Of course, you must inform the insurance company of the value of the property under the endorsement.

Which Type of Insurance Is Better?

For the most part, replacement cost insurance is better if you own highly valuable items. This is because with actual cash value insurance, you have to take the depreciation of the item’s value into account. This means that when you receive the actual cash value of an item, it will more than likely be less than what you paid for it.
Of course, this type of insurance coverage costs more than a standard policy, which only repays the actual cash value of an item. This is because the insurance company will have to pay out more if the item is lost or damaged.
On the other hand, opting for a policy that takes into account item depreciation and only pays the actual cash value on an item is great if you have assets or savings that you can dip into if needed to help replace an item. If you do not have assets or savings to fall back on, it’s probably best to pay the higher premiums of replacement cost insurance.
Your best option is to talk with your insurance agent about your coverage needs and make sure you have enough coverage to repair or replace your home and the items inside. And if you own high-value items, you can opt for extra coverage for them as well.

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