As if homeowner insurance wasn't confusing enough, often times, the consumer is forced to decide between actual cash value or replacement cost when selecting an insurance policy. This decision will affect your monthly insurance premium so familiarize yourself with the subtle differences that could make a world of difference should you ever need to file a claim.
Replacement Cost Value Defined
Let's start with an explanation of replacement cost value since, by comparison to actual cost value, it's much more simple and straight forward. Replacement Cost Value insurance is determined by evaluating what a like-item on the market today would cost. Consider, for example, that you have a 55" LED Smart TV, and you've owned it for five years. Under an RCV policy, the payout from your insurance company would offer enough money to replace that item (for a similar item) at the current purchase price.
Actual Cash Value Defined
The amount an insurance company deems appropriate to replace a certain item under an ACV policy is the Replacement Cost Value minus depreciation. In the example above involving the loss of a 55'' LED Smart TV, the insurance company would determine the actual cash value to award you. To figure that out, an algorithm is applied that takes into account the depreciation the item has been exposed to over the five years you've owned it. Therefore, the payout using ACV would be less than market value which would result in you paying the difference as an out-of-pocket expense if you tried to go buy a similar TV in today's market.
When you compare the two, it just makes sense to select an RCV policy; however, the monthly premium may be higher than with an ACV policy. If budget constraints exist, some insurance is better than none so an ACV policy may be a more attractive choice.
Most often when you receive a quote from an insurance company, they will use RCV to determine your policy premium. Sometimes, for a number of reasons, an insurance company cannot quote a policy using RCV. You may be ineligible for an RCV policy for a number of reasons, such as the condition of the dwelling or no history of prior insurance. When this happens, your insurance company should notify you that the policy is being quoted using ACV, rather than RCV.
The bottom line is that whatever type of policy you choose to insure your personal belongings, you understand the outcome that you'll face in the event of a loss.