Mitigating Risk With Insurance

Insurance is designed to help secure and protect what matters most: your family, your income, your home filled with memories.

It’s also about managing risk. Which means that searching for the lowest premium isn’t the best place to start.

If your house were to burn down or be destroyed by a natural disaster, could you easily afford to rebuild it and replace everything inside? For most people, the answer is no, which is one of the reasons why homeowners’ insurance is widely purchased.

The same applies to insuring your vehicle, your income, or your health. The potential losses are high, and the effect of a loss on you or your family could be devastating.

If you have a mortgage, the lender will require that you protect their investment and yours with homeowners’ insurance. The state where your motor vehicle is registered will require that you insure it. But life, health, and disability insurance coverage is generally up to you.

So how does it all work, what do you need, and how do you know that you’re making the best choices for you? Here are some answers.

Must Haves

Insurance is the protective moat around your castle. In the case of homeowners’ insurance, almost literally.

The insurance you must have:

Property and Casualty

Purchased by you to protect your home, car, boat, but also limit your financial liability in the event that there is damage caused to someone else. For example, if a tree from your property falls on a neighbor’s car, or someone is injured in your home.

For property and casualty insurance there are generally three variables:

• What is and isn’t covered
• Your potential out-of-pocket expenses
• Cost

In virtually every situation, there are trade-offs. A homeowners’ policy may cost less, but have a higher deductible, which is the amount you have to pay before insurance coverage begins. An auto insurance policy for the minimum amount your state requires will have lower premiums, but the potential liability is huge. Some states require as little as $5,000 in property damage liability coverage. If you’re found at fault in an accident that causes more than $5,000 in damage to someone else’s vehicle or other property, you’re responsible for the amount above $5,000.

For auto insurance, choosing coverage well beyond the state minimum is advisable. Insurance is typically quoted as a set of three numbers, such as 30/60/15. The first number, which stands for $30,000, is the maximum your insurance will pay for injuries to a single person after an accident. The second number, which represented $60,000, is the maximum for injuries to everyone you hurt in the accident. (“Everyone” means others, not you.) The final number, $15,000, represents the maximum amount your insurance company will pay for property damage you cause. That includes damage to cars, buildings or anything else that isn’t a person.

What if you slide on an icy patch and hit three cars? Clearly, you’ll likely cause more than $15,000 in damage. Since insurance will only cover the first $15,000 in damages, you’ll be liable for the rest. That’s why experts recommend buying much more insurance, such as $300,000 for injuries to a single person, and so on. 

Note that liability insurance only covers other people, vehicles and property. If you only have liability insurance, in an accident you won’t receive anything to pay for repairs or replacement of your vehicle. You’ll also want to pay for coverage that would cover that. Unlike liability insurance, there’s no decision to be made about the coverage amount: the value of your vehicle is the amount of insurance you can buy. (You can’t get, say $100,000 worth of coverage on a $30,000 car, and then receive $100,000 if your vehicle is totaled.)

If you have an accident and sustain injuries, the entity covering your medical costs will often depend upon who’s at fault. If the accident was your fault, generally your medical insurance will pay for your medical care according to your policy limits. If the accident was someone else’s fault, generally their insurance company will cover those expenses.

Because the other driver may not have insurance, adding uninsured motorist coverage to your policy is a smart idea. The cost is low, and the extra protection is worth it. If you’re hit by someone with no insurance and few assets, the likelihood of receiving compensation from them is slim. According to the Insurance Journal, nationally 13% of drivers have no insurance, and in some states 20% of drivers have no coverage.

For added peace of mind, many insurers offer umbrella policies. These policies cover a wide range of potential liability, not just automotive, and are available in amounts of $1 million or more.

A good rule of thumb is to calculate your assets and what you want to protect. If, for example, your net worth is $1 million, you don’t want to lose that in the event of a serious auto accident or accident in your home. You’ll want at least that much insurance to safeguard your assets.

There are also specialty insurance products that may apply to you. Homeowners insurance doesn’t cover flood damage, and is relatively inexpensive in many parts of the country. (Most policies are through the federal government, which sets the rates.) Coverage for hurricane damage, sewer backups and other perils are often not included in standard homeowners policies, but can be purchased relatively inexpensively as add-ons to your policy. Certain valuables such as jewelry, furs, guns, artwork, and collectibles usually require a separate policy as well, called a rider. Often an insurance broker, who is independent and represents several companies, can offer more options than an insurance agent who only works for (and represents) one company.

Health

Usually provided by your employer, purchased on your state’s insurance exchange, or by Medicare (for those 65+).

Health insurance has the same trade-off as property and casualty insurance. A high deductible policy designed to cover catastrophic expenses can potentially mean thousands of dollars in out-of-pocket expenses each year, but the monthly premiums will be lower.

Valuable to Have

If you have a family or others who are depending upon you for financial support, life insurance is critical. If not, you may or may not need it.

Life insurance is the answer to a simple, yet profound, question: If you died, would the people who matter the most to you be able to continue financially? Would your spouse be able to pay off the mortgage and keep the house? Would your child be able to pay for college? Would they be able to continue their current lifestyle?

Life insurance is a complex topic, but the reason for it is simple: to take care of the people who are dependent on you financially.

Disability insurance protects what may be your greatest asset: the ability to generate income. Generally, disability insurance will replace 60-80% of your income in the event you’re disabled and not able to work. For many people, 60% of your salary will come close to your take-home pay.

Again, there are considerations to balance. Some disability insurance will replace your income if you can’t work in your current job; some only pay if you’re unable to work in any job. Policies can begin to pay after 30 days of disability, or not until you’ve been out of work for 60, 90 or 180 days.. Policies may replace your income for a shorter or longer period of time; short-term policies replace income for one or a few years, longer term policies until age 65. Again, generally more coverage means a higher premium.

For example, if you’re close to retirement age and your retirement is comfortably funded, you may only need a disability policy that would replace your income for a year or two. If you’re younger, you may feel more comfortable knowing you’ll receive several years of income should you become disabled. If you have a significant emergency fund, you might be able to sustain yourself for 90-120 days without an income, so you can choose a longer waiting period (and lower premiums).

If your employer offers life or disability insurance as an employee benefit, chances are it will cost you much less. Some policies are portable and can be taken with you if you leave the company, possibly at a higher cost.

Self Insuring

Some individuals and families may choose to self-insure, which means they take on all of the risk themselves. Self-insuring is best suited for people or families who have significant assets that are accessible without a lot of market risk or tax burden.

Generally, self-insuring is best for smaller expenses, such as meeting a deductible or funding a solid emergency fund.