Actual Cash Value vs. Replacement Cost (Commercial Property)

Insurers require some way of determining the value of your property at the time of loss. The two methods that they use are replacement cost and actual cash value.

Replacement cost valuation (RCV) is exactly what it sounds like. The insurer will pay (up to the policy limit) whatever it costs to replace your property with one of a similar kind and quality. However, the dollar amount is based on the cost of the property at the time that it was built, not what it would cost to rebuild the same facility in today's dollars. Let's say that you built your office in 2002 for $100,000, and it got leveled by arson in 2017. But now, the cost to rebuild what you had is $150,000. By adjusting your policy limits on a regular basis to keep up with the rising costs of labor and materials, you'll be able to secure payment for the current cost to rebuild your property.

Actual cash value (ACV) is defined as the replacement cost minus depreciation. The insurer will pay (again, up to the policy limit) whatever it costs to replace the property with one of a similar kind and quality,less depreciation. Using the same example as above, the office that you built in 2002 now costs $150,000 to rebuild, but it has depreciated over the last 15 years (3% each year, let's say). In 2017, it's worth approximately $63,000, so it has depreciated by about $37,000. Therefore, the insurance company would give you $113,000, not the $150,000 that you really need to replace the building.

It's important to note that, for commercial insurance purposes, the "market value" of the building is meaningless and should not be considered when determining ACV or RCV. In the event of a loss, all the insurance company cares about is making you whole – in other words, restoring your building to its original condition so that you can get on with your business.

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