Replacement Cost, Actual Cash Value, or Functional Replacement

These 3 types of replacement for your property and personal belongings comes up quite a bit in conversations around insurance. Here is a quick reference and short definition of each.

Replacement Cost (RC):

In most cases you want to insure your property for Replacement Cost which is usually defined in the policy as the cost to replace the damaged property with materials of like kind and quality, without any deduction for depreciation. For example, if your 12 year old refrigerator is lost in a fire, a policy written at replacement cost will pay for a brand new refrigerator. This would also apply to rebuilding a structure.

Actual Cash Value (ACV):

An Actual Cash Value Policy is typically calculated one of three ways: (1) the cost to repair or replace the damaged property, minus depreciation; (2) the damaged property's "fair market value"; or (3) using the "broad evidence rule," which calls for considering all relevant evidence of the value of the damaged property. So the 12 year old refrigerated used in the example above would be depreciated from it replacement cost due to its age. Older properties that would not be rebuilt are often insured at Actual Cash Value.

Functional Replacement Cost (FRC):

Functional Replacement Coverage (FRC) is used when a functionally equivalent building can replace the original at a lower cost than would be required by an identical replacement. Functional replacement cost valuation provides a lower valuation than replacement cost, resulting in a reduction of the amount of insurance coverage required and thus lower premiums.

FCR coverage may be more favorable for certain items than actual cash value. Most FCR loss settlement provisions provide that losses will be settled following one of these two methods: replacement with a less costly, but functionally equivalent building; or, in the case of a partial loss, restoration of the damaged portion in the same architectural style, but with less costly material (ie replacing a mahogany banister with a pine banister).

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