Glossary of Terms
Replacement cost is the estimated expense to construct a building of equal utility using current materials, standards and construction methods, without replicating the exact design or features of the original structure. It differs from reproduction cost, which aims to duplicate the original construction precisely.
In the cost approach to value, replacement cost serves as the starting point for estimating the contributory value of improvements before depreciation is applied. Using replacement cost rather than reproduction cost is generally preferred, as it eliminates the need to account for obsolete materials or outdated design elements that would otherwise require additional depreciation adjustments.
For appraisers, accurately estimating replacement cost requires current knowledge of local construction costs, labor rates and building standards. Loan originators and valuation reviewers should recognize that replacement cost estimates that appear significantly out of line with market norms can undermine the credibility of the entire cost approach analysis.