Replacement-cost homeowners insurance

Your guide to understanding replacement cost value homeowners insurance, which replaces your property or home in the event of a loss.

Pat Howard 1600

Pat Howard

Published October 22, 2018

When your home or personal belongings are damaged, burglarized, or destroyed, you file a claim with your insurer who reimburses you for the losses. How you’re reimbursed depends on your policy’s loss settlement provisions, which the insurer uses to determine how much you’re paid for a covered loss.

The two most common provisions that you’ll find in a home insurance policy are called replacement cost value (RCV) and actual cash value (ACV) settlements. RCV provides you with a payment equaling the full replacement amount for the item or loss, so if your roof incurred $15,000 worth of damage, your insurer may pay to replace the damaged roof. ACV pays you the replacement amount after depreciation has been deducted from the item or loss, so if your roof was 12 years old and is only worth $8,000 today, that’s the amount your insurer would cover.

For that reason, most lenders require borrowers to buy policies that, at minimum, cover the home structure with replacement-cost settlements. The most common policy type, an HO3, provides RCV settlements for the dwelling and ACV settlements for personal property. Although insurers may offer replacement-cost payments for personal property at a higher premium. There are also different types of replacement policies, known as extended replacement cost (ERC) and guaranteed replacement cost (GRC) policies that may be advantageous for homeowners in disaster regions.

Read on to learn more:

How replacement cost value works

Replacement cost value settlements pertain to two components of your homeowners insurance policy: your dwelling coverage (your home) and your personal property coverage. These components, along with your policy deductible and limits of liability (the maximum amount your insurer will pay you, regardless of the loss amount), determine how much your insurer pays you when you file a claim.

The replacement-cost reimbursement process can vary based on the insurance company. Sometimes your insurer will issue you a replacement-cost check immediately after the adjuster approves the claim, or sometimes they’ll simply provide you with the replacement property. But the most common method is for them to first issue you a check for the actual cash value, and once you proved that you’ve replaced the loss with the agreed-upon items, they’ll send you the remaining replacement amount.

Understanding replacement cost for your personal property

There are some nuances and rules nested within RCV policies that may affect how much you get back for personal property claims. Insurers stipulate that certain rare and vintage items, like an old guitar or watch, that appreciate in value over time can’t be covered for their full replacement value without additional coverage like a rider or endorsement. Meaning, if your burglarized vintage Gibson guitar appreciated in value to $5,000, and a brand new model is only $1,000, your insurer may only cut you a check to cover the costs of the new model.

Factoring in your deductible

You also need to factor in your deductible. If your $1,200 laptop was stolen, you’d be entitled to the full $1,200 under a replacement-cost policy. However, the replacement cost for single-item claims includes your deductible. Which means if your deductible is $500, your insurer is only cutting you a check for the remaining $700.

While that specific case isn’t great, it still beats your reimbursement under an actual cash value policy. Say your laptop is three years old and is estimated to have depreciated in value to $700. Under an ACV policy, you’d receive a measly $200 from your insurer after the deductible. That means you’d potentially have to pay an additional $600 out of pocket just to hit the $1,200 for a new laptop.

Also, as we briefly noted above, the above example only applies to single-item claims. If you had multiple-item losses that totaled $4,500, you’d only have to pay the $500 deductible once, so your insurer would potentially reimburse you for the remaining $4,000.

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How to determine the replacement cost of your home

How your dwelling coverage limit is set can vary from house to house. Maybe you set it based on the mortgage amount, maybe the insurance company set it for you based on a previous occupant’s policy, or maybe you already lived in the home and are simply referencing a previous policy.

But those methods aren’t always the best way to go, and while simply referencing your mortgage or old policies may be the less strenuous option, setting a coverage limit that maximizes your financial protection in the event of a total loss should be your biggest priority.

The biggest determination of a home’s rebuild costs are its square footage and the local construction costs. For a ballpark coverage minimum, multiply the square footage of the home by the local rebuild cost per square foot. To find out the local rebuilt costs, your local real estate agent should be able to help you out. There are also several replacement-cost calculators available online which offer more comprehensive rebuild estimates of your home. These tools take other factors into consideration, such as:

  • The style of your home
  • The type of exterior construction
  • Your roof
  • Number of rooms
  • The type of interior construction
  • Any improvements or renovations

If you’re still having trouble landing on a number, contact a licensed representative at Policygenius to ensure you the get adequate replacement-cost coverage you need for your home.

Other replacement-cost provisions to consider

Similar to personal property coverage, your standard dwelling coverage may not be sufficient if you live in an older home with vintage features or a region prone to disasters where repair costs can fluctuate.

How an “older” home is defined varies from carrier to carrier, but it may be dependent on the home’s features and build rather than just the age. If your carrier determines that certain features of your home, like the roof or interior walls, contain “obsolete” and ornate features that would be prohibitively expensive to repair, they’re not going to reimburse you for the loss under a standard replacement-cost provision. However, there are suitable alternatives.

Functional replacement-cost endorsement

If you intend on maintaining the historic integrity of your home and repairing or replacing it with like-materials, you may need to buy a guaranteed replacement-cost policy (more on that momentarily) or a historic home policy from a specialized insurer. In some cases, like if the home is a historic artifact, it may be worth tracking down a specialized carrier and paying the higher premium, which are on average 20% more expensive than standard policies. But if you’re intent on modernizing the home after a loss, a more inexpensive and practical option may be to buy a functional replacement endorsement.

Functional replacement endorsements reimburse you for structural damage to your older home. But rather than reimbursing you for the pricier, more obsolete building materials of the original structure, you're reimbursed for modern materials and construction. For example, a functional replacement for plaster walls – the standard interior wall build of historic homes – would be something more affordable and modern like plywood or drywall. Same goes for your roof or windows; instead of tiled roofs and Dutch Colonial windows, a functional replacement-cost check may reimburse you for roof shingles and single-hung windows instead.

Extended or guaranteed replacement cost

Rebuild costs can skyrocket for a variety of reasons. If your neighborhood was recently hit with a tornado and every home needed to be rebuilt, the laws of supply and demand may cause the cost of materials and labor to increase significantly, sometimes beyond your coverage limits.

Your municipality may also have instituted a recent building ordinance which requires you to rebuild your home elsewhere. Rebuilding in the new spot may also be significantly more pricey and exceed your dwelling limit.

As a security blanket, some carriers offer settlement provisions that extend your limits.

Extended replacement cost (ERC) settlements pay to have your home repaired or rebuilt to its prior condition even if the loss exceeds your dwelling coverage limit, but only up to a capped amount. The capped amount is typically an additional percentage (25% or 50%) of your coverage limit. In the event that rebuild costs soar, that means a home covered for $500,000 with 25% ERC would actually be covered for $750,000.

Guaranteed replacement cost (GRC) settlements pay to have your home repaired or rebuilt to its prior condition regardless of the rebuild costs. There is no capped amount, so if your home was covered for a $1 million but the rebuild costs jumped to $3 million, the increase costs would be covered. GRC settlements are typically only offered by specialized, high-end property insurance companies.

Policygenius’ editorial content is not written by an insurance agent. It’s intended for informational purposes and should not be considered legal or financial advice. Consult a professional to learn what financial products are right for you.