Liga Asuransi – Dear readers, welcome to our blog, your trusted source for insights into risk management and specialist insurance. In this article, we explore a recurring dilemma in engineering insurance, specifically in Construction Plant and Equipment coverage: the disconnect between sums insured based on New Replacement Value (NRV), and settlement bases based on Memo 1 (partial loss) versus Memo 2 (total loss). This discrepancy can lead to disputes, especially when dealing with older machinery. If you found this article helpful, please share it with your colleagues—and don’t forget to browse our library of hundreds of related articles.
Engineering insurance is essential for businesses operating heavy machinery and industrial equipment. But the fine print can lead to confusion and disputes when it comes time to file a claim. A common source of tension arises when a policy is based on New Replacement Value (NRV) for the sum insured, but the claim settlement falls under Memo 1 (partial loss) or Memo 2 (total loss), which operate differently.
This article describes a real-life case involving a 2009 garbage truck insured for USD 1.2 million based on its NRV. After a fire in 2025, the settlement became a battleground of interpretations and expectations. Through this example, we will explore how these policy components interact and what insurers and policyholders can do to avoid conflict.
Understanding the Basics: What Are We Dealing With?
New Replacement Value (NRV)
NRV refers to the cost to replace the insured item with an equivalent one. It doesn’t take depreciation into account. The logic is simple: insure the asset so that if it’s damaged beyond repair, you can replace it without incurring a financial blow.
This approach is attractive to policyholders, especially when dealing with high-value machinery. However, the NRV on aging equipment often results in a large gap between what is insured and what the equipment is actually worth at the time of the loss.
Loss Settlement Terms: Memo 1 vs. Memo 2
Memo 1 (Partial Loss) When the damage is partial, the insurance company agrees to pay the cost of repairing or replacing the affected parts, usually without applying depreciation. The idea is to restore the equipment to working condition.
Memo 2 (Total Loss) When the damage amounts to a total loss (either physically destroyed or the cost of repairs exceeds the actual value), Memo 2 comes into play. Settlement is based on the actual market value or cash value before the loss, not the new replacement cost.
This creates a critical tension: the policy is based on NRV, but settlement (in a total loss scenario) is based on depreciated value.
Real Case: 2009 Garbage Truck Fire
Incident Summary
The insured item is a garbage truck manufactured in 2009. In March 2025, a fire broke out, damaging the cabin and electrical components. The sum insured is based on its new replacement value: USD 1.2 million.
Initially, the estimated repair cost was around USD 175,000. As the investigation progressed, the client requested a complete cabin replacement. The cost? USD 400,000.
Loss Assessor Concerns
The appointed loss adjuster issued a warning: the replacement cost of the cab could potentially exceed the truck’s actual value, effectively triggering a constructive total loss. In this case, the loss would fall under Memo 2, and settlement would shift to the vehicle’s depreciated value—likely significantly lower than the insured amount.
Where the Conflict Lies
The insured expects the claim to be honored based on the NRV, as that’s how the truck is insured. However, the insurance company is bound by policy terms that stipulate a lower payout under Memo 2 when the loss is total. The insured may only receive a fraction of the sum insured.
This misalignment creates confusion and tension:
- The client sees a sum insured of USD 1.2 million and expects coverage up to that amount.
- Insurance companies rely on Memo 2 to justify lower payments due to depreciation.
- Structural Problems: Why They Happen So Often
- This is not a one-off case. It reflects a recurring problem in engineering insurance:
Old Equipment, High Insured Amounts: Clients insure old machinery based on the cost of purchasing a new version. This makes sense in terms of risk transfer, but it creates unrealistic expectations when a claim occurs.
Memo 2 Cutting NRV
Memo 2 effectively limits payments to actual market value for total loss scenarios, regardless of what the policy says about NRV. This is a contradiction built into many policies.
Increased Risk of Improvement Estimates
Trigger Memo 2: What starts as a partial loss can become a constructive total loss if the cost of repairs (such as replacing the cabin) exceeds the real-world value of the asset.
Lack of Clarity in Policy Language:
Many policies fail to clearly explain how Memo 1 and Memo 2 interact with NRV. Clients are often unaware of how dramatically their payments can be reduced.
Practical Solutions to Avoid This Dilemma
- Revise Policy Wording to Reflect Real Risks
Insurance companies should rework policy clauses for consistency. If a client insures machinery at NRV, the total loss clause should at least reflect a payment approach that doesn’t ignore that figure entirely. One solution: explicitly define the settlement method, not just rely on Memo 2’s boilerplate.
- Use Agreed-Upon Values for Aging Equipment
Instead of relying on NRV, set an Agreed-Up Value that reflects a realistic compromise between market value and replacement cost. This gives everyone a clear understanding of the maximum payout.
Agreed Value Basis of Settlement
In the event of a total loss, the settlement shall be made based on the Agreed Value as stated in the Schedule of Insurance, without reference to depreciation, actual cash value, or market value at the time of loss.
The Agreed Value represents the mutually accepted value between the Insured and the Insurer at policy inception or renewal, based on the condition, age, and usage of the insured item.
This value shall be deemed the maximum payable amount in the event of a total loss, subject to the terms and conditions of the policy, including any applicable deductibles or sub-limits.
The Insurer waives the right to apply Memo 2 (total loss settlement based on market value) where the Agreed Value Basis is explicitly applied and documented.
Partial losses shall continue to be settled under Memo 1 (repair or replacement basis), unless otherwise stated.
- Add Depreciation Table and Value Schedule
Policies should include a depreciation chart showing the machine’s decline in value over time. This can help manage expectations and avoid arguments during claims.
- Improve Claims Assessment Practices
- Involve a loss assessor early.
- Distinguish clearly between repairable damage and total constructive loss.
- Evaluate parts such as the cabin and electronics separately to see if refurbished components can lower costs.
- 5. Introducing Sub-Limits for High-Cost Components
Policies can include specific sublimits for expensive components like the cabin, hydraulics, or control systems. This can help prevent a partial loss from escalating to a total loss based on just one expensive component.
- Broker Communication and Disclosure
Brokers must clearly explain how the insured amount works versus how the settlement is actually paid. Many disputes arise because clients are unaware of the impact of Memo 2 on claims.
What Should Happen in the Dump Truck Case?
Let’s look at how this case could be resolved:
- The truck is 16 years old. Its actual market value is likely well below $400,000.
- Although the cost of replacing the cabin is USD 400,000, it is only one part of the vehicle.
- To avoid Memo 2, claims must remain within the partial loss limits.
Suggested Approach:
- Treat the loss under Memo 1, save it as a partial loss.
- Encourage the use of refurbished or aftermarket parts to keep costs reasonable.
- Limit repair costs to an agreed proportion of the vehicle’s estimated actual value.
- Document the process clearly to avoid future disputes.
By negotiating practical solutions, both insurers and clients avoid the Memo 2 trap and maintain a fair outcome.
Conclusion: Align Expectations with Reality
The dump truck fire claim illustrates a critical gap in how engineering insurance is structured. While insuring equipment based on New Replacement Value sounds protective, it can backfire when Memo 2 disrupts payouts.
To avoid this trap:
- Use the Agreed Value or update Memo 2 to reflect the NRV provisions.
- Clarifying the definition of total loss in the policy.
- Apply depreciation schedules and sub-limits if necessary.
- Communicate clearly during underwriting and renewals.
Engineering insurance should provide security, not surprises. By rectifying the gap between the insured value and the settlement clause, both insurers and clients can ensure that when a loss occurs, the coverage actually performs as intended.
The Importance of Insurance Brokers
Insurance broker play a critical role in ensuring clients receive the right coverage tailored to their unique risks—especially in complex fields like engineering and construction. Brokers don’t just sell policies; they act as trusted advisors who understand your business, assess your exposure, and negotiate the best terms with insurance companies. When a claim arises, they are your advocate, guiding you through the process and protecting your interests.
L&G Insurance Broker stands out as a specialist in engineering and construction risks. With in-depth industry knowledge and a proactive approach, L&G helps clients secure comprehensive coverage while avoiding pitfalls policy General insurance. Whether you’re insuring heavy equipment, infrastructure projects, or operational risks, L&G provides clarity, value, and peace of mind. Their team of experts is committed to long-term partnerships, not one-off transactions. Choose L&G Insurance Broker to get advice you can trust, coverage that fits, and support that never stops—especially when you need it most.
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