What Is a Replacement Cost?
Replacement cost is the amount of money you’d have to spend to replace a lost item with one of similar quality. Here’s what it means for home insurance.
Written by Bonnie Stinson
Reviewed by Melanie Reiff
Table of Contents
- What is a replacement cost?
- What does it cover?
- How does it work?
- Do I need a replacement cost policy?
- Finding a good policy
- FAQ
Load full table of contents
Replacement cost is the amount that must be spent in order to replace a lost item with one of similar (or higher) value.
It’s important to understand replacement cost because it affects how much coverage you have. You will either have a replacement cost insurance policy or an ACV (actual cash value) policy. Replacement policies cost more but they pay out more money, since depreciation is not a factor.
Whether you’re more concerned about rebuilding a home or replacing an asset, you need to understand replacement cost so you buy the right insurance policy.
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What is a replacement cost?
Replacement cost is a sum that represents how much money you’d have to spend to replace an item with one of similar quality. It’s usually lower than market value—but not as low as actual cash value, which includes depreciation.
In a home insurance policy, replacement cost coverage can help fund a rebuild of your home after a total loss. If you have this policy, after a covered loss the company will determine how much money you’re owed and then issue a payment for the assessed replacement cost.
MORE: Does my home insurance cover earthquake damage?
What does it cover?
Replacement cost covers the cost of rebuilding or replacing your home after a covered disaster, up to your policy limit. While it doesn’t usually include coverage for landscaping, this policy would cover the cost to rebuild your home from the ground up including construction materials, labor, and fixtures.
Note that most standard homeowners policies use replacement cost coverage for dwellings and structures but ACV for personal belongings.
Your policy may even have a special limit for high-value items. For instance, let’s say a $5,000 ring is stolen but your special limit for jewelry is $2,000. You will only be reimbursed for the $2,000, not the full $5,000 that the ring is worth.
If you are concerned about special items like luxury jewelry, collectives, or expensive electronic gear, you can get scheduled personal property coverage. These items typically don’t depreciate as quickly, so replacement cost coverage is even more useful.
How does it work?
First, you need to calculate the
value of your personal belongings
to determine the overall replacement cost. Conduct an inventory of everything that would need to be replaced in a disaster situation. Include a description of the item (brand name, features) and how much you bought it for.If disaster strikes and you need to submit a claim to recover the replacement cost, you will have to prove the value of the lost item(s). Receipts are extremely useful, especially for very expensive items.
Once you submit the claim, your request will be assessed and then approved. An insurance adjuster may visit your property to review the situation in person.
When your payout comes, the money usually arrives in two installments. The first payment is usually half of the replacement cost. Then, after repairs are completed or the items are replaced, you will submit the documentation and the remaining replacement cost will be paid out.
Do I need a replacement cost policy?
When you buy a homeowners policy, you have the choice whether you prefer to insure your property for actual cash value or replacement cost. There’s no legal obligation to carry a replacement cost policy.
Replacement cost policies provide extra coverage that could be useful. You may wish to take out a replacement cost policy if:
- You feel there’s a chance your property could be damaged or destroyed
- You don’t have a lot of cash on hand to rebuild or replace lost property
- You own valuable things that would be difficult to replace
One final tip Assess your policy every year to ensure that your coverage reflects current prices and new risks. Replacement costs change as prices fluctuate and your coverage should change, too.
For help calculating the right coverage, get a contractor or appraiser to evaluate your home’s replacement cost and determine market appreciation.
Finding a good policy
Your home is precious to you—so protect it with a policy and enjoy peace of mind. You can’t prevent disasters but you can prepare for them.
If you’re looking for a policy,
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FAQ
Which is better, replacement cost or actual cash value?
The right policy for you will depend on your needs, as well as the age and quality of your property. Replacement cost is standard for dwellings whereas ACV is standard for belongings. You can always adjust coverage with scheduled items to suit your risk level. Keep in mind that ACV coverage means a strictly cash payment, with no obligation to rebuild the lost property.
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