Replacement Cost: What really matters

What? How does the value of your investment property not matter? Aside from the extremely low purchase prices of some distressed houses in today’s current market or if you are a consistent client of Lamborghini cars your investment properties are probably the highest ticketed items that you will buy in your life. For the value to not matter is ridiculous. Well, in all seriousness they don’t matter to only one industry segment – the insurance company. The insurance industry cares about Replacement Cost.

Insuring your investment properties properly

Determining what amount to insure your properties for is always a very important topic. It is a topic where there are a lot of mis-truths and lost-in-translation-myths. Determining the level of insurance to be place on your investment property is essential to your long-term success in the real estate industry. Too much insurance and you are just throwing money away and too little insurance means you are not properly covered. Investment properties usually need to be insured for what it takes to put it back the way it was before the peril (fancy insurance term for what caused the loss, such as fire). What does it cost to buy the shingles, bricks, lumber, electric wires and put everything back together? This figure doesn’t include a permanent foundation in most situations or the value of your land. In the event of a peril the insurance company isn’t covering the dirt or the permanent foundation. That leaves us with insuring what it costs to put the same house in the same condition back on the same land and on the same foundation. (No, you can’t profit from insurance so you are only covered for what it takes to make you whole.)

Determining your investment property’s replacement cost

Now the crux of the conversation is this: the value of your investment property does not matter in this situation where you are determining Replacement Cost. The Fair Market Value of your property is what a knowledgeable and willing buyer would pay a knowledgeable and willing seller without duress. While your property may be worth $250,000 in a fair market value situation, it may or may not take $250,000 to replace the building in the event of a total loss. In today’s depressed housing market it is possible that it may take you $350,000 to replace that house in the event of a total loss or in some situations it may only take $150,000 to replace the house. When making the decision for replacement amount take into consideration your location, changes in the market, and inflation costs. A good starting place is to have a professional contractor come out and give you a quote on what it cost per square foot to replace your property. Then work closely with your Insurance Agent to ensure that you are properly and correctly insured.

Wrapping up: Make sure your investment is covered!

While the value of your investment property may not matter to the insurance company it does matter to you. The decision you make in this situation could greatly affect your property or your pocketbook if you are not careful. Don’t let another day go by without verifying that you are properly insured. Murphy’s law, by definition, will always occur when you need it least!