When a Court Proves Itself Ignorant of Construction Reality True Indemnity Suffers

Tennessee Supreme Court Finds Ambiguity in the term “Depreciation”

A building is made up of products: lumber, nails, steel, roofing, siding, plaster, dry wall, etc. Standing alone the products are useless piles of material standing on a piece of land. When they are taken up by human beings and put together to form a dwelling or other structure, it is by the labor of the people who put the structural parts together into a structure that it becomes a thing of value, a structure. The cost to repair or replace the structure will also require the labor of people. The value of the structure, therefore, includes both the cost of the materials and the labor putting those materials together to make it a structure.

In Gregory J. Lammert, et al. v. Auto-owners (Mutual) Insurance Company, No. M2017-02546-SC-R23-CV, Supreme Court of Tennessee at Nashville (April 15, 2019) the Tennessee Supreme Court decided that the labor putting together a structure is of no value and cannot, therefore, be depreciated to reach true actual cash value.


The policy defined 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” and stated that “actual cash value includes a deduction for depreciation.”


The United States District Court for the Middle District of Tennessee submitted a certified question of law to Tennessee Supreme Court regarding the interpretation of two insurance policies: “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?”‘


In 2017, Petitioners Gregory J. Lammert, Jamie Lammert, Larry Reasons, and Susan Reasons (“the homeowners”) filed a putative class-action suit against Respondent Auto-Owners (Mutual) Insurance Company (“Auto-Owners”), their property insurance company, for breach of contract. The Lammerts owned a home and other structures in Nashville that were insured with Auto-Owners under a “Dwelling Insurance Policy.” Some of the Lammerts’ buildings were damaged in a hail storm on May 10, 2016.

The property was damaged twice, once by hail in November 2016 and again by wind in March 2017. They filed claims for each loss, which Auto-Owners accepted.

The parties disagree on the interpretation of the insurance policies, with the homeowners arguing that Auto-Owners should not have depreciated the cost of the labor to repair and replace the damaged property when calculating the actual cash value of the respective properties.


The question presented in this case concerns whether a portion of the cost of labor to repair and replace damaged property can be deducted from the total replacement cost when calculating the actual cash value of a property. The parties agreed that under both policies, the method used to calculate the actual cash value is replacement cost less depreciation. Neither policy specifically mentioned labor costs.

Central to the discussion in this opinion are the concepts of indemnity, actual cash value, and depreciation. The Supreme Court in Braddock v. Memphis Fire Insurance Corp., 493 S.W.2d 453, 459-60 (Tenn. 1973), explained that insurance contracts are contracts of indemnity, meaning that the purpose of the insurance contract “is to reimburse the insured; to restore him as nearly as possible to the position he was in before the loss.” Accordingly, if an insured were to make a profit on a loss by recovering the cost of a new roof for a damaged roof that was fifteen years old, then “[t]he ends of indemnity would not have been served.” On the other hand, if an insured were able to replace a loss “with a substitute identical in kind and quality” then “complete indemnity” would be accomplished. Because such a substitution is not generally possible when the damaged article is, for example, a fifteen-year-old roof, indemnity is instead accomplished through recovery of the actual cash value of a damaged property.

Replacement cost less depreciation has the advantage of relative definiteness. It is also easily ascertained. However, the Supreme Court found the method to be inflexible, and this characteristic often results in excessive recovery.  The problem of excessive recovery under the replacement cost less depreciation rule together with the occasional uncertainty of market value prompted development of what is now the most widely accepted rule, generally denominated as the “broad evidence rule,” which is defined as allowing the trier of fact to call to its aid, in order to effectuate complete indemnity, every fact and circumstance which would logically tend to the formation of a correct estimate of the loss. .

Depreciation is a reduction in the value or price of something; specifically a decline in an asset’s value because of use, wear, obsolescence, or age. Depreciation in insurance law is the actual deterioration of a structure by reason of age, and physical wear and tear, computed at the time of the loss.

The homeowners claim that applying depreciation to both materials and labor defeats the indemnity purpose of insurance by not making the homeowners whole, while Auto-Owners counters that applying depreciation only to materials results in a windfall to the homeowners, thus also defeating the purpose of indemnity.

The Supreme Court noted, and perhaps relied upon, the fact that California’s insurance regulations and the Vermont Department of Financial Regulation Insurance Bulletin No. 184 prohibits the depreciation of repair and replacement labor. On the other hand, it noted Mississippi Insurance Department Bulletin 2017-8 states that there is no statutory prohibition to labor depreciation in that state but that “the insurer should clearly provide for the depreciation of labor in the insurance policy.”

In the end, this case turns on the court’s standard for interpreting insurance contracts because both parties have presented what the court described as “plausible interpretations of the policies, neither of which explicitly states whether labor expenses are depreciable when calculating the actual cash value.”

Auto-Owners argues for a technical definition of depreciation that is not evident on the face of either policy. Taking the term in its ordinary sense, it applies to physical deterioration, which is the meaning attributed to it by the homeowners. Construing the policy language in favor of the insured, the Supreme Court concluded that “depreciation can only be applied to the cost of materials, not to labor costs.”

Ultimately, it was not necessary for the Supreme Court to reach the decision of whether labor can logically depreciate or whether indemnity is accomplished. It is enough that the court found that the contracts were ambiguous and that under its standard of review, the interpretation of the insured must prevail.

The language regarding depreciation in the policies in question is ambiguous. Under Tennessee law, ambiguities in insurance contracts are strictly construed against the insurance companies and in favor of the insured. Therefore, with the insured’s interpretation controlling, labor may not be depreciated when the insurance company calculates the actual cash value of a property using the replacement cost less depreciation method.


The Tennessee Supreme Court, contrary to its own declarations that insurance should not allow an insured to profit from a loss, uses a finding of ambiguity to allow insured’s to profit from a loss with an actual cash value policy. To use the court’s example, if it costs $10,000 to replace a damaged floor, $5000 of which is the cost of the materials and $5000 is the cost of the labor to install the floor, and it is depreciated 50% the insurer  should pay only $5000 if the full cost of replacement is depreciated. If only materials are depreciated then the insured would recover $7500 and gain a $2500 profit from the loss since he could not replace the floor for less than $10,000. That is why people buy replacement cost policies. Those insurers that issue policies in Tennessee should define actual cash value to be replacement cost less depreciation of materials and labor, the total value of the damaged property.

© 2019 – Barry Zalma

This article, and all of the blog posts on this site, digest and summarize cases published by courts of the various states and the United States.  The court decisions have been modified from the actual language of the court decisions, were condensed for ease of reading, and convey the opinions of the author regarding each case.

Barry Zalma, Esq., CFE, now limits his practice to service as an insurance consultant  specializing in insurance coverage, insurance claims handling, insurance bad faith and insurance fraud almost equally for insurers and policyholders. He also serves as an arbitrator or mediator for insurance related disputes. He practiced law in California for more than 44 years as an insurance coverage and claims handling lawyer and more than 50 years in the insurance business. He is available at http://www.zalma.com and zalma@zalma.com.

Mr. Zalma is the first recipient of the first annual Claims Magazine/ACE Legend Award.

Over the last 51 years Barry Zalma has dedicated his life to insurance, insurance claims and the need to defeat insurance fraud. He has created the following library of books and other materials to make it possible for insurers and their claims staff to become insurance claims professionals.

“Arson-For-Profit Fire at the Cowboy Bar & Grill”

A true crime novel based on the experience of the author, Barry Zalma, who for more than 51 years has acted for insurers who were faced with arson-for-profit, one of the most dangerous insurance fraud schemes. The book explains how an insurance claims adjuster, working with a fire cause and origin expert, a forensic accountant and insurance coverage lawyer, were able to defeat an arson-for-profit scheme and obtain a judgment requiring the perpetrator to take nothing and repay the insurer all of its expenses in defeating the claim.

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About Barry Zalma

An insurance coverage and claims handling author, consultant and expert witness with more than 48 years of practical and court room experience.
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