Homeowner's Balancing Act: When Replacement Costs Exceed Market Value

Many homeowners find the insured value of their homes to be a bit confusing, especially in comparison to how much it costs to purchase homes. The reason is simple and complex at the same time. You insure your home to rebuild in the aftermath of a disaster. As a result, your home’s insured value is based on what it would cost to rebuild your home rather than how much the market values your home. Below, we will discuss the differences between replacement cost coverage and market value coverage.

Replacement Cost vs Market Value

Replacement cost is important because it covers the cost of repairing or reconstructing your home at the current cost of materials and labor. For instance, if your home is destroyed by fire, your insurer will pay the cost of rebuilding your home to its pre-fire condition using materials of similar quality and type. 

Market value reflects the price a buyer would pay for your home and land in its current state. While replacement cost protection is affected by material and labor costs, market value is affected by factors beyond your control such as proximity to good schools, low crime rate, access to resources, and other factors.

When is Replacement Cost Higher than Market Value?

Since market value is largely determined by what buyers are willing to pay for your home rather than how much it will cost to reconstruct your home, you will find that you need considerably more insurance coverage for replacement cost protection than what your home will sell for in the current market. This is especially true if your home is built with rarer materials, has costly upgrades, and is located in an area where the land itself doesn’t bring in a high price. You should find that the following instances are representative of when replacement costs are higher than the current market value:

• When homes are older or constructed with expensive materials.
• When homes are located in remote or rural areas.
• When ordinances and zoning laws can greatly affect reconstruction costs.

In older homes, especially, you may find the costs of rebuilding to meet current code requirements are extensive if you don’t have the right type of insurance for your home’s needs.

Should You Insure Your Home at Full Replacement Cost?

This is a question individual homeowners will have to answer for themselves. If you’re on the fence, it is wise to consult with a reputable insurance agency, like Arnold Insurance, to help you make the right choice for your financial circumstances and overall risk aversion desires.

Benefits of Insuring Your Home at Replacement Costs

There are many benefits to consider for insuring your home at replacement cost, including the following:

• No vulnerability to real estate market volatility and fluctuations. You’ll be able to repair and rebuild regardless of property value when disaster strikes.
• A reliable option for homeowners. Replacement cost insurance coverage allows you to restore your home to its original state (or as close to that state as possible). After a major disaster, a return to “normalcy” is a huge relief to many homeowners.

Drawbacks of Insuring Your Home at Replacement Cost

While there are plenty of benefits to consider, there are inevitably a few potential drawbacks as well. The following represent a few potential drawbacks to keep in mind when considering replacement cost vs market value insurance.

• Replacement costs change. As prices rise, your may need to adjust your coverage to meet the demands of the current marketplace. Consider revisiting your coverage yearly to make sure your coverage is up to date and accurate to current prices for materials and labor.
• Changes in the market can work in your favor. With decades of community improvements and growth, your home may increase so that the market value is greater than the cost of rebuilding.

Can You Insure Your Home at Market Value?

Some homeowners are gamblers at heart and are perfectly willing to insure their homes at market value. Some may even be eager to do so if they believe their areas are about to experience booms in value. Consider these benefits and drawbacks before making your decision.

Benefits of Insuring Your Home at Market Value

Insuring your home for its market value can be beneficial in a few situations, including those listed below.

• Your home and land may appreciate in value at a rapid pace – making their value greater than the cost of replacing them.
• Potential savings. In many instances, the costs of market value insurance coverage will save you money over the costs of replacement value coverage.

Drawbacks of Insuring Your Home at Market Value

In contrast, there are occasions when insuring your home at market value can be detrimental, including these:

• The market value coverage could prove insufficient to cover the costs of needed repairs. The last thing you want is to need repairs for your home and have insurance that is not up to the challenge or costs of doing so.
• You risk overpaying. If you buy your home when real estate value is high and then continue ownership into a recession, you may overpay for your insurance over time.

Residential and commercial property values fluctuate all the time. Understanding the value of your property can help you protect your assets better and aid you in choosing an insurance policy that meets your needs while mitigating your risks. Work with Arnold Insurance today to learn the finer details of home insurance so you get the right coverage for your protection and your peace of mind.