The Diminished Value Debate

Insurance  Backgrounder
Diminished value: fact or fiction?

A car is in an  accident. It is damaged, but it can be fixed. Body shop technicians  do their job, and soon the car is back on the street.

Is this vehicle  automatically worth less than it was before the crash -- even if it  was properly repaired? The answer is "probably not," but some would  argue otherwise.

This ambivalent  answer raises a host of other questions. Under what circumstances might  a loss in value exist and how can it be measured? Should auto insurance  compensate the owner for loss of value? Does the relevant automobile  physical damage insurance policy cover such a loss? More important,  if current auto insurance prices don't contemplate covering such losses,  are consumers willing to pay higher premiums for what would, in most  states, be a brand-new insurance coverage?

Reduced to its  simplest terms, alleged "inherent diminished value" has within the past  five years become one of the hottest issues in the insurance and collision-repair  industries. And how the issue is ultimately resolved could have a big  impact on the insurance-buying public -- those who buy car insurance,  and those who are in accidents that result in vehicle damage claims.

While the attention  being paid to diminished value is relatively new, the issue itself is  not. An Illinois appellate court weighed in on this issue as early as  1923. In a case called Haussler v. Indemnity Co. of America,  the court said a jury should not have considered an award for diminished  value of a car in addition to crash repair costs. Only a few states  have ever recognized that diminished value should be considered as a  loss covered by the insurance contract.

The issue, however,  attracted scant attention until the late 1990s, when a few entrepreneurial  vendors began aggressively marketing "computerized" products that purportedly  would help body shops and consumers figure out how much value a car  had "lost" simply as a result of the stigma of having been in an accident.  Before long, plaintiff attorneys recognized diminished value as a potential  new arena for class-action litigation and a wave of lawsuits began.

The current debate  centers on the auto insurance policy's collision coverage, and also  on comprehensive coverage, which pays the policyholder for claims caused  by such things as theft, glass breakage, flooding, hail and other weather-related  events, and fire. Within the insurance industry, these are called first-party  coverages.

Under some conditions,  diminished-value claims may be paid under the property damage liability  coverage -- called third-party coverage by insurers -- which pays for  damage to someone else's vehicle for which the insured person may be  held responsible, if the damage can be proven.

Most policies don't  mention any first-party coverage for diminished value. The insurer promises  only to pay the cost of repairs to its own policyholder's car, or to  compensate the policyholder for the car's actual cash value. Actual  cash value is generally defined as the amount it costs to replace the  property with property of like kind and quality.

If insurers become  obligated because of court decisions to pay diminished value claims  on a more widespread basis, customers would have to pay higher premiums  to cover such claims.

What proponents  and opponents say about the issues
Those who argue that diminished value exists and that vehicle owners  should be compensated for it often divide the concept into two categories:  alleged "inherent" diminished value; and "repair-related" diminished  value. There are also divergent positions on other important issues.  Let's take a look at the pro and con views in each category.

** Alleged "inherent"  diminished value -- the proponents view:
According to the inherent diminished value theory, any car that has  been in a collision simply isn't the same car it was before, even if  it was properly repaired. Those who support this view claim the car  is now "damaged goods"; there is a negative perception attached to the  vehicle. They argue the car isn't worth what it was before the crash;  they say it has automatically lost some of its value just by  virtue of being involved in an accident.

Proponents support  their view with the following argument: If you were shopping for a used  car and you saw two identical vehicles on the lot, and the salesperson  told you that one of them had been in an accident and the other had  not, which one would you choose?

Proponents further  assert that if you are trading in your old car on a new one and you  disclose to the dealer that your car has been in an accident, the dealer  will automatically reduce your car's trade-in value. And they point  out that in some states, you are legally required to disclose such information  to a dealer or prospective buyer, so you may not be able to avoid the  alleged loss of trade-in or sale value by keeping quiet about the crash.

A handful of vendors  of computerized products purport to be able to measure diminished value.  They argue that even the best repairs can't restore the car to exactly  the way it was before the crash. They say a close inspection sometimes  will reveal the car has been damaged. They further claim a crash-repaired  vehicle is more likely to break down in the future.

Alleged "inherent"  diminished value -- the opposing view:
Insurers and others involved in the repair or valuation of vehicles  reject the notion that every vehicle that has been in an accident automatically  loses some of its value solely because it was in the accident,  even if it has been properly repaired.

The Society of  Collision Repair Specialists, which represents 9,000 collision repair  businesses and 76,000 professionals who specialize in the repair of  collision-damaged vehicles, has said that "a collision repair facility  can restore a collision-damaged vehicle to a condition that meets or  exceeds its condition prior to the accident in terms of appearance,  durability, functionality and safety. Furthermore, the proper restoration  of a vehicle does not, in and of itself, diminish its value."

Also, widely used  market valuation guides, such as the Kelley Blue Book and the National  Automobile Dealers Association (NADA) book, don't have separate valuation  tables for vehicles repaired following an accident.

Most states don't  require disclosure to a dealer or by a dealer to a prospective buyer  that a car has been in an accident -- or if they do, it is only for  a damage amount above a certain threshold. Indeed, some states don't  even require disclosure of minor damage to a brand-new car unless it  exceeds a threshold. If the existence of inherent diminished value --  which is a perception, not a reality -- were provable, wouldn't market  valuation experts and car dealers recognize it in their pricing of used  vehicles?

Those who reject  the theory of inherent diminished value argue that the "side-by-side"  argument is too simplistic. On a used-car lot, each vehicle competes  on its own merits for a prospective buyer's attention. The market value  of a car is a combination of many factors, including: condition, mileage,  effect (if any) of any prior damage, nature and quality of any repairs,  popularity of a particular model, prior ownership, color, equipment,  trim, and whether it is a classic or specialty car.

Perhaps some customers  would prefer a car that has never been in an accident. Perhaps others  don't want a car that has had a driver or passengers who were smokers.  All of these items could be points of negotiation between the dealer  and the buyer who might be willing to pay less than the asking price  for a vehicle that's not her first choice. But none is the basis for  an objective finding that the car has automatically suffered "diminished  value."

"Repair-related"  or "insurance-related" diminished value -- the proponents view:
Proponents of this theory say certain things done wrong during the repair  process are the fault of the insurance company and may contribute to  diminished value. For example, they say, if the repair technician tells  the insurer that specific repairs need to be done, but the insurer refuses  to authorize them, the car will be returned to the owner with incomplete  or improper repairs.

Proponents argue  that if the car owner goes to a shop recommended by the insurer, that  shop probably will do the job as cheaply as possible to stay in the  insurer's good graces -- and accordingly, that means shoddy repairs  and diminished value. Proponents further contend that the insurance  company is obligated to either arrange for the car to go back to the  shop with orders to do the job right, or pay the customer the diminished  value. Then the insurance company would have to try to recover that  amount from the shop through a process called subrogation.

"Repair-related"  or "insurance-related" diminished value -- the opposing view:
Insurance companies and collision repair shops sometimes differ over  whether specific types of work need to be done as part of the car repair  process, and they try to resolve those differences so their mutual customer  will be satisfied. To suggest that a difference of opinion over repair  procedures always means the repaired car's value will be reduced is  without foundation.

It's also wrong  to suggest repair shops recommended by insurers are interested solely  in doing the work as cheaply as possible. Insurers and most shops are  interested in quality repairs at reasonable prices. Car repair shops  uniformly state that shoddy repairs lose them customers. If the repairs  are done correctly and completely, there should be no impact on the  car's value.

Other issues
If inherent diminished value does exist, how do you measure it?
Even assuming some validity to the concept of diminished value, it raises  some difficult questions:

• Is  "diminished value" universal among vehicles that have been repaired  after being in a crash? Even advocates of the theory don't agree on  this point. Some advocates maintain that if any car has been in any  kind of accident, no matter how minor, it has sustained diminished  value -- they support the theory of the "inherent" diminished value  of all cars involved in every accident. Others limit the concept to  newer vehicles with relatively low mileage that had major damage in  the accident. Either view raises difficult questions about whether  the perceived value can be measured on a broad basis.
• At  what point does the vehicle "diminish" in value? Does it happen immediately  after it has been repaired and returned to the owner? Or, as some  would argue, does this occur only when it is traded in to a dealer  or sold to an individual? What if the owner doesn't trade in or sell  the car for a long period of time -- say, five years after the accident?  Does this theory of damage catch up to the depreciated value? Suppose  the owner never trades in or sells the car, but keeps it until it  has only salvage value. Has that owner suffered any diminished value  at all? If this owner were to receive a diminished-value payment from  the insurance company, should he then return it?

If insurers  must add this coverage, premiums likely will go up.
Except in four states (Georgia, Mississippi, South Carolina and Tennessee)  where some court decisions have held otherwise, insurers say claims  for diminished value are not payable under comprehensive or collision  coverages. Most insurance policies say that when the car is damaged,  the insurer will pay the cost of repairing the car or its actual cash  value (when the car is considered a total loss). There is no mention  of coverage for diminished value, and the payment of diminished value  was not contemplated when rates were established. If insurers are compelled  to begin providing coverage for diminished-value claims, they will have  to adjust their premiums to take this new obligation into account.

The impact on insurance
Courts and state insurance regulators disagree on the core issue of  whether diminished value occurs solely because a vehicle has been in  a crash and, if so, whether insurers are required to pay for it. The  trend in recent years has been toward rejecting the argument that insurers  must pay diminished-value claims under comprehensive and collision coverages.  Insurance policies, which are subject to review in most states by insurance  departments, generally limit the responsibility of the insurer to the  cost of repair. State courts or regulators in California, Florida, Texas  and Louisiana, among others, have agreed with insurers that the policy  language is clear and unambiguous.

Policy language
Insurance policies generally don't mention "diminished value" or "diminution  of value." Some say this is evidence of the fact there is no intent  to provide coverage. Others argue the fact it isn't excluded is evidence  that coverage is implied.

The Insurance Services  Office (ISO), which writes policy forms used by many insurers, has developed  a form that specifically excludes payment for diminished value. According  to the online publication IRMI.com, the ISO policy language had  been approved for use in at least 38 jurisdictions as of March 2001.

State Farm has  developed an endorsement designed to reinforce what it considers already-clear  policy language to more specifically state there is no coverage for  diminished value. It is now being introduced in several states.

State Farm's position
State Farm's  position on the diminished-value issue may be summed up this way:
** State Farm believes a properly repaired vehicle does not automatically  lose market value simply because it has been in an accident. In most  instances, skilled repairers can restore a vehicle to its pre-accident  condition and market value. Sometimes, where repairs are not properly  done, a vehicle might lose some value.

** In rare circumstances  the combination of repairs and other market factors might also affect  the perceived market value of a particular vehicle. State Farm does  not believe in the existence of "inherent" diminished value -- that  the market value of all cars involved in any type of accident automatically  drops.

** Claims for loss  of market value aren't payable under comprehensive and collision coverages,  except in those few states where courts have held otherwise. Even if  such claims are allowed, proof is required before payment is made. Under  some conditions, diminished-value claims might be payable to a third  party under a State Farm policyholder's liability coverage. Again, proof  of the alleged loss of market value would be required.

** Comprehensive  and collision coverages should be limited to payment for repair costs  when a vehicle is repairable. Requiring insurance companies to pay for  a perceived loss of value would only serve to add to the cost of insurance  paid by all consumers