Insurance 101: Replacement Cost vs. Actual Cash Value

These two common calculations can make a big difference in your insurance payout, so it’s best to understand them. Read on to learn the meaning of both replacement cost and actual cash value.

Even with a good understanding of your insurance policy, some people may be confused about how their home insurance coverage payout is calculated.

For example, imagine this scenario: your basement floods, rendering your downstairs television and sound system inoperable. Should the insurance company pay you out for the resale cost of the actual items you lost? Or, for the cost to replace that technology with a new, similar product?

The above are the two main ways to calculate your payout. They are known as replacement cost and actual cost value, and they can result in not only very different payouts, but varying premium costs as well. Obviously there’s quite a difference between these two price tags, so it’s something that you should consider before you sign up for your homeowner’s or tenant’s insurance policy. Read on to learn more about these two calculations.

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Actual Cash Value vs Replacement Cost

To help simplify these terms, we’ll be going over their definitions, what the pros and cons are between them, and then concluding with some important differences.

Definition of Actual Cash Value (ACV)

With an actual cash value coverage calculation, your payout would be the dollar amount of what your items would have been worth today, had you sold them on the market before they were damaged. This means that this calculation takes into account things like deductions for depreciation, wear and tear, and the actual condition of the item when it is lost or stolen.

For instance, if you bought a brand new pair of jeans five years ago, the calculation would consider the wear and tear that those pants had seen since you’d purchased them. As a result, you’d receive less than what you paid for the jeans due to depreciation.

While the above is an example of a product that can depreciate quite quickly, many household items also lose their value over time. This means you’d likely have to make up the difference of the cost to replace your items should you have to cash in on your policy.

Pros and cons of actual cash value

Pros: Premiums for this policy are generally quite cheap, keeping costs down for policyholders.

Cons: Payouts are lower, so clients will often have to pay out-of-pocket to replace their items on top of whatever their return is.

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Definition of Replacement Cost

Replacement cost coverage pays you out the amount that you would have to pay on a new, similar, and comparable product. The idea behind this coverage is that you wouldn’t have to pay out of your own pocket to replace your items, as you’d get enough to cover a brand new replacement.

However, this doesn’t mean that if you got a new computer five years ago and it was damaged today, you’d get a top-of-the-line replacement. In reality, you’d get paid out as much as a new computer with the same features as your old one would cost.

Pros and cons of replacement cost

Pros: Replacement cost insurance pays out quite high, meaning policyholders don’t have to dip into their own funds to ensure their lives can return to what it was before they had to file a claim.

Cons: Premiums can be costly for policies with this type of covered losses.

Difference Between Actual Cash Value and Replacement Cost

Both calculation methods of replacement cost and actual cash value have their own pros and cons, so there’s not one that’s better than the other. This means it’s really up to the policyholder to decide which calculation method is right for them.

Generally, getting a policy that will cover the actual cash value of items that are lost or damaged is great if you are looking for a policy that will offer you some protection while only charging you low premiums.

However, if you’re looking to get plenty of protection for lost or damaged items and aren’t worried about paying higher premiums, getting a policy that covers the replacement cost of your items is the way to go.

Are you looking for a good Tenant’s Insurance policy? Contact APOLLO Insurance today to start our simplified process and get your free quote in 5 minutes.

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