What are replacement costs?

Replacement costs explained

Homeowners and renters have three choices of what type of homeowners policy is needed to replace the structure of the home and the items in it. An actual cash value policy replaces the items at their current cost – the price originally paid minus any depreciation of the item over time.

For example, if a homeowner lost a five-year old stereo, the insurance would determine how much that equipment would be worth today – after five years of use – so a homeowner would get only a percentage of what was originally paid, and probably not enough to purchase a new stereo. This is the least expensive type of policy.

Replacement cost policies pay the actual cost of replacing or repairing the item or home – at today’s prices. A guaranteed replacement cost policy is the most expensive option, and may not be available for all homes. This type of policy will pay to replace a home to the condition it was prior to the disaster, even if it exceeds policy limits. It does not cover the cost to bring a building up to the current building codes, however.

An ordinance policy is the only policy that will pay for any additional costs associated with brining a replacement home up to current building codes.

When considering homeowners insurance coverage options, it’s important to get enough insurance to replace the structure of the home at current construction costs. This price isn’t necessarily related to how much the home would sell for, so it requires some calculation.

Although a lot goes into this calculation, it can be roughly estimated as the square footage of the home multiplied by the costs to build per square foot in the area.