The South Carolina Supreme Court has recently addressed a question that often arises in the handling of first-party property claims, is it proper for the insurer to include labor costs in a depreciation calculation when the labor cost is "embedded" in the item of property? The case is Butler v. Travelers Home & Marine Ins. Co., 2021 S.C. Lexis 51.
Miriam Butler and Joseph Stewart were both homeowners whose homes were damaged in separate fires. Both Butler and Stewart had home insurance policies from subsidiaries of The Travelers Companies (Travelers), and both chose to receive the ACV of the damages to their respective homes rather than repairing or replacing the damaged aspects of their homes.
A general ACV calculation uses one or more of the following methods: (1) market value, (2) replacement cost less depreciation and (3) the broad evidence rule. Travelers implemented the "replacement cost less depreciation method to calculate ACV in this case. In order to calculate ACV, Travelers calculated the depreciation for both materials and labor and subtracted both of those amounts from the replacement cost value to determine what they would offer to Butler and Stewart as the actual cash value for their properties. According to Butler and Stewart, "Travelers did not and has not calculated any portion of Plaintiffs' losses by appraisal or fair market value."
According to the court, Travelers took a nontraditional way to calculate ACV in these cases, and began by estimating the RCV of the damaged property, and then subtracted a separate estimate of lost value, which Travelers called "depreciation." There was no indication to what went into determining "depreciation" but it was clear that Travelers calculated depreciation for both materials and labor, and subtracted both of those amounts from the RCV (replacement cost value) to determine the ACV. The Plaintiffs only disagreed with whether it was proper for Travelers to include labor costs in the depreciation calculation.
The question before the court was "When a homeowner's insurance policy does not define the term "actual cash value," may an insurer depreciate the cost of labor in determining "actual cash value" of a covered loss when the estimated cost to repair or replace the damaged property includes both materials and embedded labor components?
The South Carolina Superior Court certified that the answer to the question was "yes."
"Embedded" labor, as it is used in this case, means that labor costs are no longer separable from the cost of materials. The court stated that "the fact the labor cost is embedded makes it impractical, if not impossible, to include depreciation for materials and not for labor to determine ACV of the damaged property. . . [r]ather, the value of the damaged property is reasonably calculated as a unit."
Thus, the court held that Travelers may include both material depreciation and labor depreciation when calculating ACV because 'it makes no sense for an insurer to include depreciation for materials and not for embedded labor."
Editor's Note: The court used the example of shingles and nails to demonstrate "embedded labor components." Initially, the shingles and nails had labor costs because workers had to make them. By the time the shingles and nails were sold to the roofer, though, those labor costs were embedded" in the market price the roofer paid to purchase them. Similarly, the cost of a new roof includes paying workers to remove the old roof and install the new one.