requiring 100% replacement cost

[Roger Devore]

I am in the process of cash-out refinance of a property and the lending company is requiring 100% replacement cost. Is that normal for an income property? I had an insurance agent recommend 100% of the value and maybe a little more for another income property. Two thoughts, was that a terrible recommendation and is this something that would be required from most lenders? One other thought, how does one get their insurance at a more reasonable rate (besides shopping around)? I am calling a broker.

Thanks in advance,

[Patrick Liska]

It is normal for a lender to want the insurance for 100% replacement cost, but 100% of what? 100% of the rebuilding cost or 100% of the amount the bank is lending you? I have a property that requires flood insurance, when talking to my lender one day he said the bank only cared that there was enough flood insurance to cover the amount of the outstanding loan. Saved myself some money by lowering the flood insurance to a little over what is left on the loan.

[John Mocker]

Roger,

The better way to insure your buildings (home or rental) is covering them for "Replacement Cost" (RC). That is the cost to rebuild from the foundation up with the same kind and quality of materials. The other way you that was suggested sounds like "Actual Cash Value" (ACV). That is generally defined in the policy as the RC less depreciation. 

The advantage of RC is that in the event of a partial loss, the claim payment is not reduced for depreciation. If your building is 50% depreciated, a $100,000 loss would only be paid at $50,000 normally. Generally the cost of ACV coverage is less because you do not need as high a limit.

The only advantage of the ACV coverage is, it is generally a lower limit so it has a lower cost.

[Cameron Moore]

Originally posted by @Patrick Liska:

It is normal for a lender to want the insurance for 100% replacement cost, but 100% of what? 100% of the rebuilding cost or 100% of the amount the bank is lending you? I have a property that requires flood insurance, when talking to my lender one day he said the bank only cared that there was enough flood insurance to cover the amount of the outstanding loan. Saved myself some money by lowering the flood insurance to a little over what is left on the loan.

Replacement cost is computed by an RCE (Replacement Cost Estimator) via each individual carrier. Some Lenders do ask replacement cost to be at 100% of the loan, but that is not accurate. When you pay market value for a property, you are paying for land and market. Insurance is only concerned with material cost for rebuild. Here in Texas, that is generally $125-140/ sq foot and Lenders will request the RCE to prove that the property would rebuild at the amount written. 

[Roger Devore]

My Thanks to @Patrick Liska, @John Mocker, and @Cameron Moore. The information I have received made my choices easy. As usual, I have gone furth down this rabbit hole than I thought I needed but am thankful for the outcome.

Respect,

Roger