What Does “Replacement Cost” Mean?

February 3, 2020

When you buy insurance, you have two options when it comes to the type of coverage you can obtain. The insurance company will ask you if you want replacement cost or cash value coverage. You might not think this is a big deal since you are choosing the amount of coverage to buy, but it holds great importance. You won’t notice the difference until you have to make a claim on your insurance. Of course, this is the time you want the insurance coverage that will cover your loss as much as possible.
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Keep reading to learn the difference between the two terms.

Replacement Cost Coverage Defined

If you have a claim/loss, you will need to replace the damaged or lost items. Normally, an insurance company would reimburse you the amount of money you paid for the item. If it’s something you bought many years ago, it could cost a lot more money today to replace it.

This is where replacement cost coverage comes into play. This coverage helps you replace the items at today’s cost without any money required from you. This, of course, only works if you actually replace the items. If you decide to go without or not repair the damage, this coverage won’t help you.

Here’s how it works:

You claim a loss, say in a house fire. You claim the loss of your furniture. The insurance company pays you the cash value of the furniture today, considering the depreciation it took since you bought it. When you go to replace the furniture, you can file with the insurance company to receive further compensation to cover the full cost of the replacement.

Keep in mind, that the insurance company has the final say regarding whether they will repair or replace your item. Even though you claim damage, the insurance company will determine which method is the most cost-effective. If they feel the item can be repaired, they may opt for this option since it will likely be less costly for them.
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Actual Cash Value Coverage Defined

If you opt for actual cash value coverage, you agree to receive the ‘actual value’ of the items at the time of the loss. This will be less than what you paid for the item. The main difference you should be aware of is the money you will receive. With actual cash value, you probably won’t receive enough compensation to cover the cost of replacing the item. You can consider it reimbursement, but you may have to put some of your own cash into the replacement of the item, if you choose to do so.

Using YourReplacement Cost Coverage

If you purchase replacement cost coverage, you should be prepared to provide the insurance company with proof of the item. This may include any of the following:

  • Proof of purchase including the cost
  • The value of the item today if you were to buy it today
  • Picture proof of ownership of the items

These rules mainly pertain to big ticket items. For example, you don’t have to keep receipts for every book you buy or every piece of clothing. But you would need receipts for a television, furniture, or computer that you claim as a loss.

It’s important to talk to your insurance agent about both types of coverage. Go over your assets and determine if replacement cost coverage makes more sense. Do you want the reassurance that you can replace your items no matter their cost today? Would you rather take a gamble and at the very least, receive compensation for the item minus depreciation? Think long and hard about the decision, going over the different premiums and benefits to help you make your decision.
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