You’ve had a claim. (In Part 1 of our ‘Claims’ series, we discussed the claims process.) Now you’re at the point of settling the claim with your insurance company. They may have offered you a choice of Replacement Cost or Actual Cash Value for your settlement.* And you wonder, what’s the difference and which should I choose?
Before we get to an example, some insurance basics. You buy insurance to protect yourself against unforeseeable events that are not expected or intended. It’s meant to indemnify you after a loss. Or in plain terms, put you back to the same financial position as just before the event of loss or damage –no more or no less. It is illegal to profit from an insurance claim. Think of it as if you had a loss where a couch was damaged. The goal of indemnifying you would mean you would get another couch of the same value (no more, no less) after the claim.
To help explain Replacement Cost and Actual Cash Value, let’s use a hypothetical claim example…A pipe connected to your water heater has burst, causing a flood and damaged some property, including a child’s playset. It’s ruined. The insurance adjuster has determined that you have coverage for the ruined kitchen playset. Your policy has the option for your settlement to be either Replacement Cost or Actual Cash Value and you have to make a decision.
What’s the difference? Which one should I choose?
Replacement Cost is technically defined as: The cost of replacing property with like kind and quality.
If you choose the Replacement Cost option, your settlement would reimburse you (within policy limits) to replace the kitchen playset with a new one of like kind and quality. The insurer would not take into consideration if the playset had dents and scratches from hours of use. They would not pay for an upgraded ‘super-cool’ playset, just one of like kind and quality if replaced despite the wear and tear.
The process to go about replacing the playset with South Easthope Mutual would have you go purchase a new identical one and then submit the receipt for reimbursement.
Actual Cash Value is technically defined as: The fair market value of property taking into account factors (such as depreciation) that might reduce the value of the property in question. – In other words, Actual Cash Value is equal to Replacement Cost minus Depreciation.
Now, we’ll apply Actual Cash Value to the ruined playset. Let’s say your kids are grown and nobody plays with it anymore. It was just taking up space and you don’t want or need to replace it. You would get your settlement according to Actual Cash Value.
The insurance company would determine the Replacement Cost of the playset and deduct from that the depreciation. Depreciation is a formula to account for the wear and tear and scratches and dents. The resulting money is yours, free to do whatever you wish with.
As always, we hope you don’t have a claim. They cost us all. But if you do, we hope you can be a bit more informed on how claims are settled so that everyone is happy at the end of the day. We want to protect what is important to you and put you back into the same financial place as you were before the loss happened.
*Please read your insurance policy. Policies will specify which type of settlement you are eligible for including other specific options.