What is the definition of replacement cost value?

Replacement value is the amount an individual would have to pay, at the present time, to replace a particular item, taking into consideration the item's age and condition. Replacement value often comes up in the context of insurance, when an insurer has to ascertain the value of a destroyed or stolen piece of insured property. For example, New York Penal Law § 155.20 allows courts to use replacement value of stolen goods if a market value cannot be determined, stating that value shall be evaluated as “the market value of the property at the time and place of the crime, or if such cannot be satisfactorily ascertained, the cost of replacement of the property within a reasonable time after the crime.”

[Last updated in December of 2020 by the Wex Definitions Team]

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In contrast, actual cash value (ACV), also known as market value, is the standard that insurance companies arguably prefer when reimbursing policyholders for their losses. Actual cash value is equal to the replacement cost minus any depreciation (ACV = replacement cost – depreciation). It represents the dollar amount you could expect to receive for the item if you sold it in the marketplace. The insurance company determines the depreciation based on a combination of objective criteria (using a formula that takes into account the category and age of the property) and subjective assessment (the insurance adjuster’s visual observations of the property or a photograph of it). In the case of the stolen camera, the insurance company would deduct from its replacement cost an amount for all the wear and tear it endured prior to the time it was stolen.

What Does “Replacement Cost” Mean?

The term “replacement cost” is defined or explained in the policy. Simply stated, it means the cost to replace the property on the same premises with other property of comparable material and quality used for the same purpose. This applies unless the limit of insurance or the cost actually spent to repair or replace the damaged property is less. Refer to your policy for the exact definition and explanation of replacement cost.

What is “Actual Cash Value”?

The term “actual cash value” is not as easily defined. Some courts have interpreted the term to mean “fair market value,” which is the amount a buyer would pay a seller if neither were under undue time constraints. Most courts, however, have upheld the insurance industry’s traditional definition: the cost to replace with new property of like kind and quality, less depreciation. Courts have varied in their rulings as to whether or not depreciation includes obsolescence (loss of usefulness as a result of outmoded design, construction, etc.).

So What’s the Difference?

The only difference between replacement cost and actual cash value is a deduction for depreciation. However, both are based on the cost today to replace the damaged property with new property.   

What is an “Agreed Amount Endorsement”?

This endorsement is an agreement made by the insurance company wherein it waives the coinsurance clause on the specified property. As long as this endorsement is in effect, there would be no coinsurance penalty at the time of a claim.   Insurers usually require a statement of property values signed by the insured as a condition of activating or including an agreed value provision in a commercial property policy. 

What About “Book” Value?

Note that accounting or “book” value has no relevance to either of the previous methods of valuation. The depreciation rate reflected in “book” value would yield a terribly inadequate settlement. Another problem with using “book” value is that it may reflect only the items that are “capitalized.” To determine adequate limits, one must add “expensed” items into capitalized items.

Other Kinds of Valuation

Certain property may be subject to a special valuation basis other than replacement cost or actual cash value. The value reported should match the applicable valuation basis. For example, if the property policy is endorsed with a selling price endorsement for finished goods, the proper value to insure for finished goods is the cash selling price, less any customary discounts and expenses that otherwise would be incurred.

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