Depreciation
The reduction in an item's value over time due to age, wear, and obsolescence, used by insurers to calculate actual cash value.
In insurance, depreciation is the reduction applied to the value of property to reflect its age and condition at the time of loss, producing the actual cash value. Insurers use depreciation schedules that specify the useful life of common items: a roof may have a 20-year useful life, flooring 15 years, appliances 10–15 years, and electronics 3–5 years. The older an item, the more it has depreciated and the less an ACV insurer will pay.
Depreciation is calculated differently depending on the insurer and the item type. Some use straight-line depreciation (even reduction each year); others use accelerated schedules. The percentage depreciated is applied to the replacement cost to arrive at ACV. An item that is 50% through its useful life has been depreciated by approximately 50%.
Understanding depreciation explains why it is critical to know whether your policy pays ACV or RCV. For big-ticket items like roofs, HVAC systems, and appliances, the depreciation deduction under ACV can leave homeowners with substantial out-of-pocket costs on top of the deductible.
Real-World Example
The adjuster applied 60% depreciation to the 12-year-old wood floor with a 20-year useful life, reducing the $10,000 replacement cost to a $4,000 ACV payment.