Property Insurance – The Truth About Replacement Cost

A common issue clients have with their clients is the question of what it would cost to rebuild the building that they own in the event of a fire, or other disaster. The Insured will often say, “I spoke to a friend who’s a General Contractor and said he could build it at $50 per foot.” They resist insuring the building for more than that.

Although the $50 per-foot estimate is accurate for construction costs, it may not be the entire story. These numbers are not accurate and should not be relied upon.

The cost of demolishing the building or removing its debris may not be included in the estimate. This can be expensive and time-consuming, particularly if you have environmental concerns such as lead or asbestos.

– This may not include an allowance of engineering or architectural fees.
– It does not have to include permits that might be required
It is likely to be a simple shell. There may not be additional costs for tenant upgrades, offices, or additional wiring.
– This may not include overhead or profit for the General Contractor.
– This does not include financing costs like interest and fees.

It is possible that the building code has changed to prevent it from being rebuilt in the same way as before. This issue will be discussed in future articles.

Another misconception concerns the issue of market price. There is no relationship between market price and Replacement Cost. Market value can be significantly higher than Replacement cost if the ground has high market value or much lower if there is a weak real estate market. It is important to discuss market value, but not in the context of whether it makes sense to build or move to another facility.

The insurance policy will only cover the replacement cost if the building is actually reconstructed. You should consider Actual Cash Value if you are planning to move, rather than rebuild. A lower value policy will reduce your premiums. If you do not intend to rebuild, there is no reason why you should pay more.

Another comment we hear is that because the building is sprinklered with concrete, a total loss would be impossible. Therefore, it makes sense only to insure the damage. Coinsurance clauses in almost all property insurance policies penalize policyholders who under-insure their property. This strategy can backfire even if there is a moderate loss.

It is best to have an appraisal done every few years to determine the exact Replacement Cost. Then, adjust that value each year using a construction cost index. This can be very costly, and few clients will actually do this. The most common approach is to use the Replacement Cost estimates provided by services such as Marshall & Swift/Boekh. These estimates are based on actual losses. They are often used as a guide by brokers and insurance companies. These estimates are only an estimate and may not reflect the actual cost of your building.

We subscribe to Marshall & Swift/Boekh and provide free estimates to our clients. Please feel free to reach out to me if you have any questions.

Building insurance is usually very affordable. Insurance on a typical California building costs about $1.00-2.00 per $1000 coverage. This means that increasing coverage is typically a small increase to the overall cost of the insurance program. A slightly higher deductible is often enough to offset the increased cost.

While this discussion is about the Replacement Cost of buildings, many of the same problems could occur when insuring machinery and equipment. When estimating the Replacement Cost of these items, it is important to consider transportation, taxes, disposal, installation testing, financing, and other costs. When estimating the replacement cost of these items, it is important to include transportation costs, taxes, disposal and testing.

Invensure Insurance Brokers is led by Duncan Prince CPCU. He is also a CIC, CRM, and CEO. Over 30 years as a commercial broker, he has also taught CPCU at Rancho Santiago College and Coastline College. He has also been a featured speaker at functions in the insurance industry.