Replacement Cost vs Cash Value Policy

[Account Closed]

I'm under contract for my first multi-unit property in the Metro Denver area.  It's a 9 unit building, and the process is going well so far.  The building is older (1940's), but with a mix of newly updated units and some units that haven't been updated in a while.

I'm currently looking at two quotes for insurance.  One is a cash-value policy, the other is a replacement cost policy.  The replacement cost policy also has $120K of business interruption insurance, where the cash-value policy only has $50K.

I like the idea of replacement cost coverage, as the depreciated value of a lot of the building will be very low.  I'd be really annoyed if there was a loss, but the insurance adjuster came in and said the unit was 80% depreciated. 

However, the difference in premium is pretty large.  The cash-value policy is $3.7k/yr, and the replacement cost policy is $7.2K/yr.  This is the difference between running the building at a ~5.5 cap-rate vs. a ~5.8 cap-rate.

I know most on this forum would opt for the less expensive policy.  Is there anyone that has gone with a cash-value policy and regretted it?  What would you do?

[Jacob Sampson]

I don't insure for replacement cost because more often than not the replacement amount is higher than I would ever reinvest in the areas I am buying in.  For example if I purchase a rental home for $50k the replacement amount is probably $150k.  I'm never going to build a $150k house in the neighborhood where I purchased originally for $50k.

If I buy for $50k I insure for roughly $60k.  Meaning if the house gets destroyed I pay off the loan, take back my down payment, clear the property of junk, and sell the lot.  

I don't get a ton of appreciation in my area so it is all cash flow.  Once the property is gone I am fine with walking away and finding the next place.

I go a step further and have all my properties on a $5k deductible.  For me insurance is just there for a calamity.  I maintain enough cash to cover $5k or lower in expenses.  I have 38 units and have been investing since 05.  In that period I have filed 2 claims and both of those were for barely over my deductible.  I save plenty of money in cheaper premiums to more than cover the lack of coverage.

All that being said, I invest in SFH and small multi's larger commercial buildings may be a different story.