Overhead and Profit: Its Place in a Property Insurance Claim

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A general contractor oversees the entire construction project, a role that includes, among other responsibilities, hiring the required trades (carpentry, masonry, plumbing, electrical, etc.); sequencing, coordinating and supervising their work; researching zoning requirements; and obtaining necessary permits. Overhead expenses represent those costs incurred by a general contractor to operate its business, but are not attributable to any one specific job.

Some examples of overhead expenses are:

Every general contractor is entitled to a profit, which is defined as the difference between the cost of goods and the price for which they are sold. Overhead and profit, which vary significantly in the construction industry from general contractor to general contractor, is expressed as a percentage of the total construction cost. The overhead and profit percentage commonly utilized in the insurance industry is 20 percent of the estimated repair or replacement cost.

While most property insurers provide replacement cost coverage, rarely are they contractually obligated to pay more than actual cash value (“ACV”) as of the time of the loss unless and until the damaged or destroyed structure is actually repaired or replaced. Since the term is usually undefined in the typical property insurance policy, courts have developed three primary rules to measure ACV.

Some courts apply a “market value” rule: the difference between the market value of the property before and after a loss. This rule applies the criterion of what a willing buyer would pay and what a willing seller would accept for the property on a cash sale in a free and open market.

Other courts apply a “broad evidence” rule, in which consideration is given to every fact and circumstance that logically tends to establish a correct estimate of the value of the property, such as: its original cost; its replacement or reproduction cost; its market value; income derived from its use; its age and condition; its obsolescence, both structural and functional; depreciation and deterioration to which it has been subjected; and the opinion of value given by qualified expert valuation witnesses.

A number of courts have rejected both the “market value” and the “broad evidence” rules, instead applying a “replacement cost less depreciation” rule. Under this rule, depreciation is deducted from the estimated cost to repair or to replace damaged or destroyed property to determine its ACV.

Depreciation in an insurance context, which is different than depreciation in an accounting context, is considered the decrease in the actual value of property based on its physical condition, age, use, and other factors that affect the remaining usefulness of the property.

Although there is no express provision in the typical property...

Determining ACV

Some courts apply a “market value” rule, which is the difference in a free and open market between the market value of the property before and after a loss.

Other courts apply a “broad evidence” rule, which considers every logical fact and circumstance in establishing a correct estimate of the property’s value. These could include original cost, replacement cost, market value, age and condition.

A number of courts have rejected both of these rules and instead are applying a “replacement cost less depreciation” rule. Under this rule, depreciation is deducted from the estimated cost to repair or to replace damaged or destroyed property in order to determine its ACV.


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