Actual cash value (ACV) is the amount of the item’s worth minus wear and tear, aging, and deterioration. The wear and tear is also known as depreciation.
Replacement cost value (RCV) is the cost needed to fix damages at today’s prices, or to replace an item with another item of similar kind.
Scratching your head yet? Stay with us here — it gets easier.
Say you get damage to your siding due to hail. The RCV would reimburse you the cost of a similar type of siding (minus any deductible). ACV would pay based on the age and condition of the siding, which is likely not enough to fully replace your siding.
ACV is a less expensive premium for obvious reasons (less coverage). However, a replacement cost policy — while more each month — can save you thousands later when you need to replace a damaged roof, siding, pipes, etc. Another thing to note: Many lenders may require an RCV policy on your property.
ACV is calculated by subtracting depreciation from the replacement cost. The depreciation is usually calculated by estimating the life expectancy of the item and figuring out what percentage of that expectancy is left.
Let’s break that down in an example:
You paid $2,000 for a washing machine nine years ago. The washing machine has an estimated lifespan of 12 years. This means you’re already 75% through the lifespan.
Unfortunately, a fire starts on your property and destroys the machine. With ACV, you would only receive around $500 in reimbursement. And if you have a $1,000 unmet deductible, you’ll end up with no money at all. Ouch.
An RCV policy, on the other hand, would reimburse you that $500 AND the additional $1,500 needed to get a similar replacement. You’d still need to pay your $1,000 deductible, but that’s about it.
So, let’s recap. To calculate ACV:
ACV = RCV - depreciation
RCV x percentage of lifetime used = depreciation
Just kidding! You are not responsible for calculating ACV, depreciation, or RCV (obviously). The best way to know is to ask your insurance agent or choose an RCV policy — then you’ll know your item is covered fully.
The TLDR version: Actual cash value only pays out the price of your depreciated item. Replacement cost value pays out a (pardon our redundancy) replacement for your item. Pay less each month for an ACV and you get what you sow. Pay a bit more for a replacement policy and your property will be fully covered.