Actual cash value vs replacement cost: what your claim pays

Replacement cost coverage pays what it costs to repair or replace damaged property, without subtracting for age and wear. Actual cash value coverage pays that cost minus depreciation. Which one you have decides how much you are paid and when.

What do actual cash value and replacement cost mean?

Depreciation is the loss in value from age and wear. The two kinds of coverage treat it differently. These definitions come from the NAIC, the association of state insurance regulators.

To see which you have, look at the declarations page, the summary at the front of your policy. The NAIC says that if it does not specify replacement cost, the policy likely covers actual cash value only.

A policy can mix the two. The NAIC warns that a replacement cost policy may still pay actual cash value on certain surfaces, such as the roof, and replacement cost on the rest of the home. Roof damage insurance claims covers that case.

Replacement cost has limits. The NAIC says it covers materials of like kind and quality, not upgrades.

How is depreciation worked out?

The NAIC says insurers usually base it on three things: the condition of the property when it was damaged, what a new one would cost, and how long the item would normally last. Its example is a two-year-old laptop that normally lasts four years. A new one costs $750, so the laptop has lost half its value and its actual cash value is $375.

The deduction can be large when something is near the end of its life. The NAIC says an actual cash value policy may pay as little as 20% of the cost to replace a 20-year-old roof.

There is room to question the figure. United Policyholders, a nonprofit, says there is no agreed schedule for depreciation and that it is subjective. Some states also set limits:

• California. The deduction must be “fair and reasonable” and applies only to parts of a structure that are normally repaired or replaced during the structure’s useful life.
• Washington. The insurance commissioner’s office says an insurer cannot depreciate labor costs when it works out actual cash value on a property claim.
• Alabama. On a residential claim settled at actual cash value, you can ask the insurer for the worksheets that detail every depreciation deduction.

Rules differ by state, so check your state’s page.

Why is the first check smaller than the estimate?

Three things can make it smaller: the deductible, held-back depreciation, and work that was left off the estimate. This guide covers the first two. For the third, see Insurance offer too low.

With a replacement cost policy, the NAIC says the insurer may at first pay only the actual cash value. When you show that the property has been repaired or replaced, it pays the difference, up to the replacement cost. The NAIC calls that difference recoverable depreciation. The Texas Department of Insurance describes the same thing as two payments: the first for the estimated repair cost minus depreciation, the second after the work.

Some states write this into law:

• Florida. On a dwelling, the insurer must first pay at least the actual cash value, less the deductible. It then pays the remaining amounts as work is performed and expenses are incurred. If the dwelling is a total loss, it must pay the replacement cost coverage without holding anything back.
• California. When the policy requires you to repair or replace before full replacement cost is paid, the insurer pays the actual cash value until then. Once the work is done, it pays the difference.

With an actual cash value policy there is no second payment. The depreciated amount, minus the deductible, is what the policy pays.

What does this look like with numbers?

This example uses made-up round numbers to show the arithmetic. They are not real figures.

Say a storm damages a kitchen. The repair estimate is $20,000. The insurer applies $6,000 of depreciation. The deductible is $2,000.

With replacement cost coverage:

1. First check: $20,000 minus $6,000 depreciation minus $2,000 deductible = $12,000.
2. You have the repairs done and send the insurer the invoices.
3. Second check: the $6,000 that was held back.
4. Total paid: $18,000. Your share is the $2,000 deductible.

With actual cash value coverage:

1. One check: $20,000 minus $6,000 depreciation minus $2,000 deductible = $12,000.
2. There is no second check. Your share is $8,000.

The second check depends on what you spend. United Policyholders says that after you replace the property, the insurer generally owes the difference between the actual cash value and your actual replacement cost. If the repair costs less than the estimate, the second payment can be smaller.

How do you collect the held-back depreciation?

1. Ask for a written breakdown. It should show the replacement cost, the depreciation and the deductible as separate numbers, and say whether the depreciation is recoverable.
2. Ask for the deadline in writing. The NAIC says there is usually a time limit, ranging from 6 months to one year depending on your state’s laws and your policy.
3. Do the work and keep the paperwork. United Policyholders says insurers do not volunteer the second payment. You replace the property, send in the receipts and ask for the balance.
4. Ask early if you need more time. The NAIC says that after a very large disaster, insurers will give more time if you ask, and your state insurance department may require it.

Some states set a minimum time:

• California. The limit cannot be shorter than 12 months from the first actual cash value payment, or 36 months for a loss tied to a declared state of emergency. The insurer must also grant six-month extensions for good cause, such as permit delays or a shortage of contractors.
• Louisiana. After a declared disaster, an owner in the declared area with replacement cost coverage has at least one year from the date of loss or the insurance payment, whichever is later, to complete repairs.

Belongings can work differently from the building. The California Department of Insurance says you normally need to replace damaged items before the insurer pays their replacement cost, and that items you decide not to replace are paid at actual cash value. It suggests asking how many months you have. Florida law starts from the other side: the insurer must pay replacement cost on belongings without holding back depreciation, whether or not you replace them. The same law lets insurers offer a version that pays actual cash value first and asks for receipts, so check which one you bought.

What can you ask the insurer?

• Which parts of my policy pay replacement cost, and which pay actual cash value? Ask about the roof, belongings and other structures.
• How much depreciation was taken on each item, and how was it worked out?
• Was one flat percentage applied to everything? United Policyholders suggests checking that items were depreciated one by one, based on condition as well as age.
• Was labor depreciated?
• Is the depreciation recoverable, what proof do you need, and by what date?
• Is this payment partial or final?

The Texas Department of Insurance says an offer should come with a list of your damaged items showing replacement cost and depreciation, and suggests asking how the adjuster arrived at the cost estimates. If you have receipts or advertisements that show a higher replacement cost, you can give them to the adjuster.

Collecting held-back depreciation comes down to finishing the work and sending proof before the deadline. If the disagreement is about the amount of depreciation or the repair estimate itself, your options include a written dispute, the appraisal clause or a supplemental claim for missed damage. Before paying anyone a percentage to handle it, run the numbers in the fee calculator.