In the event of an insured peril, how is the payment determined under an indemnity policy?

The payment under an indemnity policy is determined based on the principle of indemnity, which aims to compensate the insured for their loss without providing a profit. This is why the correct approach involves calculating the depreciated value at the time of loss.

Indemnity policies are designed to restore the insured party to the financial position they were in immediately before the loss occurred, not to enrich them. Depreciated value takes into account the wear and tear, and age of the item, reflecting its actual worth at the time of loss rather than its original purchase price. This ensures that the payout aligns with the actual economic loss experienced by the insured.

In contrast, full replacement cost without deductions would provide a sum that exceeds the actual loss suffered, which goes against the principle of indemnity by effectively allowing the insured to profit from their loss. Similarly, determining payment based on market value at the time of loss could lead to variability and inconsistency, as market conditions fluctuate. Finally, considering the cost of the cheapest alternative replacement does not accurately reflect the value of the lost item and could fall short of adequately compensating for the specific loss sustained.