Replacement cost coverage ensures that your lost or damaged property is replaced at its current value in claims that involve covered perils. Essentially, insuring your home for its replacement cost value (RCV) means your claim settlement won’t be impacted by depreciation caused by wear and tear or age.
Instead, replacement cost coverage pays to replace or repair your property at today's costs without regard for how much useful life is left in the item. This is different from actual cash value (ACV) coverage that does consider depreciation. Compared to an ACV coverage, RCV policies typically pay more in covered claims.
How replacement cost coverage works
Home insurance written as replacement cost coverage helps you quickly recover from a loss because it provides enough coverage so you can return your damaged property to its pre-claim condition.
Suppose you paid $1,000 for a sofa eight years ago that was later destroyed in a covered claim. Because of wear and tear, that sofa is currently only worth $200. But because you insured it for its RCV, you’ll receive the full cost of replacing it, up to your coverage limit and minus your deductible.
However, your insurance company will most likely first pay you the actual cash value of your sofa (i.e., $200). The remaining amount is called recoverable depreciation, which you receive as reimbursement after you replace your damaged property.
Two replacement cost coverage endorsements
Homeowners insurance usually covers your dwelling and other structures for their RCV because insurers want people to be able to rebuild their homes after a catastrophe. But even with replacement cost coverage, you can come up short in a total loss.
Why might you need higher coverage amounts when you’re already insured for your home’s RCV? The main issue is that coverage amounts are based on estimates. A sudden spike in construction costs, which can happen in a disaster, may mean you need more than what you insured your home for.
To better protect yourself against fluctuating construction and labor costs, you may want to look at getting either a guaranteed replacement cost or an extended replacement cost endorsement.
Extended replacement cost coverage endorsement
Extended replacement cost coverage is an endorsement that may be available to help protect you from a surge in the price of materials or labor. Depending on your insurer, this endorsement raises your dwelling coverage limit by as much as 50%.
Guaranteed replacement cost coverage endorsement
Like extended replacement cost coverage, a guaranteed replacement cost endorsement provides more protection from rising construction cost in a total loss. However, this endorsement pays the total amount it costs to replace your home no matter what.
Not every insurance company offers these endorsements, so ask your provider about what’s available.
Replacement cost coverage for personal property
Personal property is usually covered for its actual cash value rather than its replacement cost. However, some home insurance companies offer replacement cost coverage for your personal property as an endorsement.
Some examples of personal property include:
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Furniture.
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Electronics.
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Housewares.
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Tools.
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Clothing.
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Bedding.
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Collectibles.
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Jewelry.
These items can be more expensive to replace than we think, and that can make insuring them for their replacement cost value a good idea. Just remember that adding the endorsement increases your premium.
Benefit of replacement cost coverage
The benefit of replacement cost coverage quickly becomes apparent in a covered loss, especially if you have a catastrophic claim. Knowing that your insurance can help you rebuild can give you peace of mind when you’re actually hit with the worst case scenario.
Adding guaranteed or extended replacement cost coverage boosts that benefit even further by providing protection from inflation and rising prices.
Replacement cost vs actual cash value
Replacement cost coverage’s advantage may look even better when you compare it to actual cash value coverage. Where insuring for your home’s RCV means your insurer pays to replace it with materials of similar quality, covering your home for its ACV results in your provider deducting depreciation from your claim payout.
So let’s consider the example of the ruined sofa again.The original price may have been $1,000, but that was eight years ago. The most your insurer pays for your claim is the depreciated amount: $200. That number reduces even more in a claim settlement if you have a deductible.
Misconceptions about replacement cost coverage
One of the biggest misconceptions about replacement cost coverage is that it allows the insured to upgrade their home or furnishings.
Home insurance is designed to help make you whole by returning your insured property to its pre-loss condition. It’s not intended to be a bonanza for the policyholder. Items insured for their RCV are typically repaired or replaced with goods and materials of a matching quality – not a “better” quality. This is partly why accurately documenting losses with receipts and product information is so helpful in a claim. These can act as evidence of your property’s replacement cost.
How to determine if you have enough replacement cost coverage
The first step in deciding if you have enough replacement cost coverage is to make sure it’s in your policy. Replacement cost coverage is fairly standard for your dwelling but is less so for your personal property, which makes reviewing your homeowners insurance policy to verify your coverage important.
Next, check your Coverage A limit (i.e., your dwelling coverage). Make sure it meets your home’s replacement cost. Your insurance agent can help you do this, but you can also use a replacement cost estimator to get a decent ballpark figure.
Factors that affect replacement cost coverage premiums
Replacement cost coverage is typically more expensive than actual cash value coverage, and for good reason. You get more protection against financial loss when you insure your property for its replacement value.
Additionally, your premium is based on several factors, including:
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Location. Material and labor costs can be significantly different depending on your area.
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Building materials used. Premium materials, like high-quality stone, are more expensive to replace, so insuring them means a higher premium.
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Endorsements. When an endorsement increases your protection, it does so at a greater cost.
Your next steps
Replacement cost coverage is generally the standard when insuring your home, but that doesn’t mean every home insurance company provides it. If you’re unsure about whether you have the appropriate coverage, call your insurance agent to find out.
