Insurance policies are designed to indemnify an insured by putting the policyholder in the same position he or she would have been in had no loss occurred. In the context of property insurance policies, damaged property is typically valued based on its estimated actual cash value (ACV) if it is not repaired or replaced. In order to calculate ACV, an insurer will often calculate the replacement cost (RCV) based on the cost to repair or replace the property with materials of like kind and quality, and then depreciate that amount to account for age, wear, obsolescence, or market value. When making that calculation, there can be a question as to whether labor should be appreciated. In Lammert v. Auto-Owners (Mutual) Insurance Co., No. M2017-02546-SC-R23-CV (Tenn. Apr. 15, 2019), the Supreme Court of Tennessee joined the states that have ruled that labor cannot be depreciated.
To Depreciate Labor or Not
In this case, the petitioners filed a putative class action seeking a ruling that Auto-Owners impermissibly depreciated labor when calculating ACV under certain homeowners policies. When calculating ACV, Auto-Owners acknowledged that it depreciated both materials and labor.
There were two policies at issue. One defined ACV as “the cost to replace damaged property with new property of similar quality and features reduced by the amount of depreciation applicable to the damaged property immediately prior to the loss.” The second policy did not define ACV, but stated that actual cash value includes a deduction for depreciation. The policyholders argued that these definitions do not allow for depreciation of labor “because labor is intangible, and ‘prior to the loss’ likewise eliminates labor costs because the labor costs at issue are post-loss costs.” The policyholders also pointed to the definition of “depreciation,” which was defined as “a decrease in value because of age, wear, obsolescence or market value,” to argue that labor cannot be depreciated “because it does not age, wear out, become obsolete, or (generally speaking) decrease in market value.” In response, Auto-Owners argued that the policies are not ambiguous and “that depreciation of a property is taken from the total replacement cost, which includes both labor and materials.”
The district court determined that the dispute over whether labor can be depreciated is a question of state law for which there was no controlling precedent, and certified the following question to the Tennessee Supreme Court:
Under Tennessee Law, may an insurer in making an actual cash value payment withhold a portion of repair labor as depreciation when the policy (1) defines actual cash value as “the cost to replace damaged property with new property of similar quality and features reduced by the amount of depreciation applicable to the damaged property immediately prior to the loss,” or (2) states that “actual cash value includes a deduction for depreciation”?
The Question of Indemnity
The question of coverage is always determined by the policy terms and conditions. Insurance policies are interpreted based on their plain language. However, if the language at issue is susceptible to more than one reasonable interpretation, a policy will be considered ambiguous and is most often construed in favor of the insured and coverage.
The Tennessee Supreme Court noted that “[c]entral to the discussion in this opinion are the concepts of indemnity, actual cash value, and depreciation.” Insurance policies, as contracts of indemnity, are intended “to reimburse the insured; to restore him as nearly as possible to the position he was in before the loss” (quoting Braddock v. Memphis Fire Ins. Corp., 493 S.W.2d 453, 459-60 (Tenn. 1973)). When property is damaged, “if an...
