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I recently met with an individual that indicated the building they owned and operated out of was built for $80,000 in the mid 70s. Due to the size and construction of the building it  now has a Replacement Cost (RC) value in the millions despite the fact that market value is considerably less. After realizing the significant difference, the owner’s next predictable statement was "I oughta torch the place!" followed by a laugh. These are the individuals the Insurance Companies do not have to worry about. The person to worry about is the one that receives the information, and immediately his head cocks and that 12 mile stare washes across his face for 30-45 seconds. He then returns with a nonchalant "you were saying?"

Whether it be a Home or a Commercial building. A common question is "Why is the Replacement Cost Limit greater than the Market Value of my Home?" The two values truly do not relate well to each other. Take for example an 1100 sq. ft. all brick home built in the 40s in what is now considered an economically depressed neighborhood. If there is a total loss, the owner needs a new home. The market value for the home may be $45,000. However, the Insurance Company is going to pay to reconstruct a comparable home (they are not going to take the Insured home shopping).  Assuming today’s material and labor costs, the cost to reconstruct the home is likely over $200,000 (which may be closer to the market value if that same home was in an economically thriving neighborhood).

The same thing can happen when a family or individual has a brand new home built and the RC value is greater than the new construction cost. Why is this? In a new subdivision, Builders typically build a number of homes at one time allowing them to take advantage of Economies of Scale.  Example: when building multiple homes a builder will purchase windows, toilets, dry wall etc. for several homes.  As a result the unit cost per item is significantly lower.  Reconstruction Cost of a single home can be much greater.

 A future post will provide more information about how the RC is calculated.  Check our "Home" tab above for more information about Homeowners Insurance.

Posted by: Dan Hebbeln

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744 Spirit of St Louis Blvd, Suite H
Chesterfield, MO 63005
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