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The value of replacement cost or simply replacement value is the amount of what it would cost an individual or company to replace or replace an asset with one equal or similar to market prices.
We should not confuse the replacement value with the book value since the latter is the acquisition value of good minus the amount of depreciation accumulated by wear or tear.
The terms replacement value and replacement cost generally have to be used without distinction, although in a commercial context they may have different connotations.
The replacement cost of an item refers to the investment that the company will have to make to replace it after the sale is achieved, although it is a similar definition, the replacement value is more associated with a damaged asset that must be replaced not for purposes Billing or periodic sale.
The replacement value of a damaged or damaged asset is estimated from the market conditions of the good if not identical, similar in use and quality.
Let’s continue reading these brief paragraphs to make it clear what is the replacement value? Methods and associated terminology.
Definition of replacement value.
The replacement value refers to the cost of replacing lost, damaged, destroyed or stolen goods with replacement objects of purposes and quality comparable to those of the original.
Insuranceopedia.com presents the concept of replacement value in the context of insurance as “the cost of replacing an asset in its previous condition to the loss with a similar type and quality”.
So the replacement value is a term commonly linked to the insurance policies to cover claims or damages to the properties of individuals or companies.
The replacement value is one of the two main methods of insurance companies to compensate you for a loss. With insurance replacement value, you are compensated with the actual cost of replacing the damaged asset, something convenient and anticipated for the buyer of the policy, however, replacement value insurance can be significantly expensive.
The other method to determine insurance compensation for a covered loss is called actual cash value. (ACV) for actual cash value.
Replacement value, methods and related terms
An adequate estimate of the replacement value is beneficial for both the insured and the insurer. In fact, marketbusinessnews.com tells us that overvaluing an asset so that the insured pays high insurance premiums constitutes fraud, as well as overvaluing the asset to collect a value greater than the real one.
Your insurance policy will define exactly the scope of the replacement value. In general, the insurance company will cover all replacement costs up to the limit of money set forth in the policy. To exemplify, if your policy has a limit of USD 30,000 of coverage, surplus replacement expenses over that figure will not be covered. In addition, if the cost of repairing the damaged property is less than the replacement value, the policy may require a review.
As for the real effective value (LCA), the criteria to determine how used an item was include factors such as model and version, age, type and any quantifiable use information such as mileage or hours of use of an engine.
There may also be a “subjective assessment” of the condition based on the visual observation of the insurance appraiser or expert on the covered property, photos or videos of it.
Insurance companies can hire the services of companies specialized in estimating effective values such as Verisk Analytics or Bluebook International, among other companies that have powerful tools and methodologies for estimating value.
The methods for determining depreciation in cost accounting and insurance compensation should not have any relationship between them.
In general, basing an insurance compensation value on an accounting book value could result in an inappropriate agreement. In addition, depreciation of book value is used only for items that were capitalized for a specific number of years and may not go hand in hand with the current conditions of the good.
There are some methods of appreciation apart from the replacement value and the actual effective value. For example, an insurance policy may be based on the sale price of finished products suggested by the manufacturer or by the simple cost of replacing items.
In such a case, the compensation value would be based on the sale price of the affected products, minus any discount and added other sales charges that would be customary such as transfers, manoeuvring and installation.