How a replacement cost estimate works

The most important reason for getting homeowners insurance is to make sure you can replace your home if you have a total loss. You don’t want to come up short if you need to rebuild your entire house, so you must understand how a replacement cost estimate (RCE) works.

Your dwelling coverage limits should cover your home’s replacement cost. This is the amount that you pay to rebuild your home from the ground up using materials of a similar quality. Many people choose to insure the structure of their home for its entire replacement cost, as opposed to its actual cash value, because it’s the option most likely to make them whole after a total loss.

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Insurance companies use the information you put on your application, proprietary formulas, and third-party data to calculate your home’s replacement cost estimate. However, inflation can cause construction costs to fluctuate, and that can change your replacement costs. This means insurers make adjustments to your replacement cost estimate to make sure you have the appropriate amount of coverage.

Worth noting: your home’s replacement cost estimate and market value are different. The market value is what someone will pay for your home, not what it costs to build it. So depending on market conditions, the replacement cost could be more or less than your home’s market value.

What factors into a replacement cost estimate?

Insurance companies use many factors to estimate the rebuild cost of your home. The replacement cost estimate focuses namely on the size of your home and the quality of the materials and appliances. For example, your insurer may look at the:

• Number of corners on the house.
• Roof type.
• Type of exterior walls (siding, masonry, wood).
• Size of the home.
• Floor type (carpet, tile, hardwood, laminate).
• Cabinet type.
• Type of countertops.
• Number of bathrooms.
• Tub type (standard, jacuzzi).
• Special features.

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But other costs also factor into a replacement cost estimate, like paying for:

• Skilled labor.
• Designers and architects.
• Demolition and debris removal.

Our system automatically crunches these numbers for you and accounts for building and material costs in your area to calculate your estimate.

How construction costs impact replacement cost estimates

While the materials and structure of your home are only going to change if you do a major renovation, construction costs vary based on market conditions. And as construction costs go up, so does your replacement cost estimate.

In 2021, data analytics company Verisk reported that reconstruction took a sharp upward trend, driven in part by skyrocketing lumber prices. The company reports that soaring gas prices and overall inflation are having much the same effect in 2022.

How to calculate your replacement cost estimate

Insurance companies use a replacement cost estimator tool to figure out your replacement cost, you can estimate it on your own.

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Start with the square footage of your house and multiply that by the average building costs in your area. For example, let’s say your home is 1,800 square feet, and building costs are $185 per square foot. That means your replacement cost estimate is $333,000, as shown below:

1,800 square feet x $185 per square foot = $333,000

Remember, this is just an estimate, not the actual cost. If you want a more accurate estimate, then you may want to talk to a contractor who can better evaluate your home’s design and building materials.

How homeowners can prepare for rising replacement cost estimates

If your replacement cost estimate increases – and considering the direction construction costs are going, it probably will – then you should be ready for a bump in your homeowners’ insurance premium. Basically, your insurance provider will recommend increasing your limits so you’re ready for a disaster. As your dwelling coverage increases, so does your premium.

Increases to your premium usually take place at renewal, a process that begins a few months before your expiration date. During renewal, you can see how your previous dwelling coverage compares with the new replacement cost estimate.

You may want to revisit your policy’s replacement cost estimate if you’ve remodeled or renovated any part of your home. Just taking something like plywood cabinets and replacing them with custom cabinets can increase your replacement cost. If you don’t let your insurer know so they can update your policy to reflect that change, you may not have adequate coverage for your upgrades.

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