We have heard the term Insurance so many times in our lives, but have we asked what it means, how it works, which type of insurance do we need, and how much insurance is sufficient?
Well, These are the question we will be answering in the below sections. So sit back and hop on to the Insurance Express and visit all the interim stops!
How Does Insurance Work?
Insurance is a hedging instrument. For example, you own a business and have a lot of inventory stored in a storage. Won’t you lose money if there was a fire in the storage? Well, yes you would. What could you do to safeguard yourself? Well, you can get fire insurance.
Insurance is a contract between the insurer (Insurance Company) and the Insured (At-risk Individual). This policy requires the Insured party to pay periodic payments to the Insurer against a contract known as the Insurance Policy.
These periodic payments received from various Insured parties are pooled by the Insurer and invested. This generates the return for the Insurer.
The policy safeguards the Insured against specific events and also mentions the sum of the claim the Insured will receive in case of such an event subject to mutually acceptable terms and conditions.
If such an event occurs, the Insured receives the claim money to make up for his loss. This money can be more or less than the loss but it is better than nothing.
The insurer on the other hand earns the returns from investment and commissions for policy creation and so on. The insurer also knows that not all policies will be claimed at the same time, therefore it maintains only a required amount of liquidity.
What Is An Insurance Premium?
The insurance premium is the above mentioned periodic payments made by the Insured to the Insurer for gaining the benefits of the policy.
It is an income for the Insurer but it also creates a liability for it because if the Insured is paying all the scheduled premiums, then the Insurer is liable to pay the claim money in the event of the occurrence of the insured event.
If the Insured defaults in insurance premiums, according to the terms of the policy, the policy can be canceled. At times, the policy requires a single lump-sum premium at the time of policy creation. So the premiums may not always be in installments.
Depending upon the riskiness of the Insured, the premium is determined. The higher the risk, the greater is the premium. Therefore, for a life insurance policy, the premium for an older person is more than the premium for a younger person.
Types of Insurance
The most common classification of Insurance is based on the risk insured. Insurance can be Auto insurance, Life Insurance, Renter Insurance & so on. Let’s discuss these various types of Insurance one by one.
Auto Insurance is taken on motor vehicles such as a car to prevent paying high costs incurred due to an accident. These costs might pertain to repairs which can be very costly when paid out of pocket. Insurance claims help to cover some or all of such costs.
At times, some insurance policies also cover medical or legal expenses as well. So coverage varies from policy to policy. Make sure you read the policy documents properly.
The insurance covers the owners and family members mentioned in the policy or a person driving the vehicle at the owner’s consent. However Personal auto insurance doesn’t cover anyone else except the policyholder.
How Much Is Car Insurance
The premiums on Auto Insurance are based on age and other factors such as past accident history. An older person or a teenager might have to pay a higher premium because they are more prone to the risk of meeting with an accident.
If you want to reduce your premiums, you might have to compromise with the risks covered.
Auto Insurance policies are generally renewed every 6 months or annually. Most states in the US mandate the car owners to have coverage for bodily injuries or death.
In case you don’t have auto insurance, you might get some coverage through the Uninsured motorist coverage too.
According to various sources, the average annual auto insurance cost is $1750, however, this may vary from state to state and based on risk factors also.
This is a component of auto insurance. It covers all the other damages that are not covered by collision and liability insurance, the other two components of Auto insurance. Comprehensive insurance will cover damages caused due to natural calamity, theft, vandalism, and many such causes.
In the case of car financing, the borrower pays the lender periodic payments to own the car. However, if an event such as an accident occurs before the loan is paid off and the insurance coverage is lower than the expenses and financing cost, Gap
Insurance comes into play to cover the ‘gap’ between the coverage and loss.
Now coming to the most important kind of insurance, which is the first thing that comes to your mind when you hear the word insurance. Life Insurance is the biggest component of insurance policies issued every year.
There are various kinds of life insurance policies so understanding them one by one seems to be the right thing to do.
Term Life Insurance
The term life insurance policy is issued for a limited period. You can choose a period according to your wish at the end of which the policy expires.
In case the policyholder dies during the term of the policy, his beneficiaries get the claim amount specified in the policy.
If the policy term gets over without the death of the policyholder, then the policyholder may renew the policy. I
f not renewed there is no payout. So the premiums paid get lapsed. Because of this reason, the cost of the policy is the lowest when compared to other life insurance policies.
The term of the policy can be 10 years, 20 years, or 30 years but you can also find some exceptions.
Whole Life Insurance
Instead of limited-term coverage, Whole Life Insurance covers the Insured for his entire life. This means that the payout is certain. In addition to the claim benefit at the time of death, there is a saving component known as the cash value.
This gets accumulated if the insured pays an additional amount to the premiums. Reinvestment of the income is also allowed.
This is like an investment component, which the insured can withdraw or take a loan against and is not limited to the death only. The Death benefit is specified and is separate from the cash value. It is not impacted by the withdrawals of the cash value.
How Much Life Insurance Do I Need?
This is a subjective question and varies with life stage, responsibilities, return requirement, and so on. In short, it depends on the Objectives and Constraints of the Investment Policy Statement.
If you have a lot of dependents such as young children, aged parents, and so on, then your life is highly important. You are the main wage earner in the family so the insurance benefits should cover the upcoming expenses such as children’s education, lifestyle, and healthcare expenses.
However, if you are at a later stage in life and have completed all the duties you were supposed to and your family is financially independent, then your insurance investment might be reduced.
In a way, this is the answer to the question – is life insurance worth it? The worth varies and you need to create clear cut goals to make a decision.
Is Life Insurance Taxable?
According to the IRS, the claim money received because of the death of the insured, is not taxable. However, interest income is taxable.
This income might be generated when the payout doesn’t happen immediately at the death of the policyholder. It might be retained by the insurance company and reinvested to earn interest income.
In case the beneficiary is the estate of the policyholder instead of an individual, the payout increases the income of the estate and might push it into a higher tax bracket. So that might lead to higher taxes.
Estate as a beneficiary is never beneficial. However, the Tax Cuts and Jobs act of 2017 led to doubling the exemption limits. Leading to lower taxes where the income is under the limit.
When the policy is transferred, there is no tax, so instead of waiting till death, it is often considered best to transfer the policy ownership within the lifetime. The new owner has to pay the premiums.
Health or Medical Insurance
As the name suggests this covers the medical bills. Either the policyholder is reimbursed or the bills are paid directly by the insurance company. It covers surgery bills, pathological bills, and even regular check-ups.
Is Health Insurance Tax Deductible?
Health Insurance premiums can be deducted from the taxable income and the benefits are tax-free too. That is why this is a lucrative option. At times, the employers pay a portion of the health insurance premiums, which is an added incentive.
Is Health Insurance Mandatory?
Starting 1st January 2019, Health insurance is not mandatory. Before this, the Affordable Care Act was implemented in 2010 which mare the insurance mandatory because otherwise, it resulted in a tax penalty if you didn’t have the insurance.
Some states still mandate health insurance but at the federal level, it is not mandatory.
How Much Does Health Insurance Cost
Although the cost varies based on ZIP code, patient’s health, and other such risk parameters, on average the annual cost is close to $4000 with monthly premiums.
Open Enrollment Period For Health Insurance
This is the period per year when you can enroll in a health insurance plan. According to health.gov, the upcoming enrolment period is from 1st November to 15th December 2021.
Some policies have a minimum limit. If the expenses due to the occurrence of the covered events are higher than the minimum limit then only the insurance company is supposed to pay out the specified sum. Further, the insurance company will deduct the minimum limit from the total claim and only pay the excess. This minimum limit is known as the Insurance deductible. This is very common in health insurance.
Another common aspect of health insurance is the Coinsurance, where certain services should be paid by the insured more than the deductibles and the insurance company only covers the excess amount.
The higher the deductibles and Coinsurance, the lower is the insurance premiums.
What if you want to cover the Deductibles and Coinsurance cost? You can take another insurance for these and this is known as Medigap Insurance.
COBRA stands for Consolidated Omnibus Budget Reconciliation Act. It is a health insurance policy that lets employees and their dependents to benefit from the health insurance of the employee even if he is fired or works for reduced hours.
This is not allowed to all employees but only to those who are eligible for it.
If the employer stops paying the insurance premium share, the employee can still benefit from the policy if they agree to pay the premium themselves. COBRA Insurance is less expensive than normal health insurance.
Death and Disability are not covered under the COBRA cover. Further, COBRA cover is provided only for a limited time.
This is a clear-cut policy without many complications. The policy clearly specifies which kind of dental treatments are covered. Dental Insurance specifies the coverage amount and any expense beyond that is payable out of your pocket.
Most policies have a network of Dentists and getting your treatment done from them helps in reducing the out of the pockets costs by the maximum amount.
You may get embedded dental insurance as part of your medical insurance or you may get separate insurance if you feel that you don’t need medical insurance for some years but might need dental insurance in near future.
Is Dental Insurance Worth It?
Generally, Dental insurance costs somewhere around $50 per month. The policy is for a year so if you don’t claim the money then the policy lapses and the premium paid can’t be used.
Therefore, dental insurance is not of the same worth to every insured. Only those who have frequent dental issues, feel the worth of it.
You may compare the annual expense to the annual premium and the coverage amount. If the coverage amount exceeds your annual expense, then the insurance is worth it.
Wearing eyeglasses is very common however the cost of doctor visits, buying glasses, lenses, and other instruments is not very pocket-friendly.
Most people need glasses as they age so buying insurance is a rational thing to cut down on out of pocket costs.
If you stay in a home, there are chances of damages, such as fire or theft or flood and similar events. This can lead to huge losses of personal belongings, may even cause injuries and medical issues, and also lead to the additional expense of temporary accommodation. Therefore, insuring your home is of utmost importance.
What Does Homeowners Insurance Cover?
Homeowners insurance covers all of the above losses and included interior and exterior damages too. However, floods and other acts of God are most of the times not covered.
Read your policy documents well to understand what all are covered. Even losses due to war are not covered.
How Much Is Homeowners Insurance?
Again, state-wise variations exist, however, on average the insurance costs around $1200 annually. But the state-wise deviations are quite a lot, so it is best to consult your insurance adviser.
If certain acts of God are not covered under the Homeowner’s insurance, hazard insurance comes to the rescue of the homeowners. This is additional insurance that can be taken by the homeowners.
This especially takes care of inclement weather phenomena but you need to ensure that your policy covers the weather condition that you want protection against.
A term normally confused with Homeowners insurance is Mortgage insurance. It is applicable when the borrower of the loan pays lower than 20% of the house value as a down payment.
It protects the lender or the person giving the loan and not the borrower or the person who will own the home if he timely pays all the loan payments.
This is basically mandatory to protect the lender in the event of the borrower defaulting on mortgage payments. As the equity of the borrower is very low, the chances of him defaulting are higher.
In the case of financing a house, the lender and the borrower might not be aware of title defects of the property. A property may change several hands over a period of time and due to this reason, there could be a defect in the title or the ownership of the property.
Before the purchase and sale, the title is examined by going through public records. However, there might be some defects that might not appear in such records. Title insurance is to protect the lender of the loan against such defects.
The borrower buys this insurance because in case of a default on mortgage payments the lender can recover the loan by selling the property. If at this time, a title default comes up, the insurance company protects the interests of the lender.
This is the insurance that brings the policyholder additional security against unforeseen liability occurring due to damages caused by events related to homeowners, auto, and watercraft insurance.
When your home catches fire, there might be damages to other homes in the neighborhood so some portion of this is covered in the homeowner’s insurance but there can be additional claims. To cover such unforeseen claims, an Umbrella insurance is taken by some insurers, who expect high claims.
You live in a rented apartment. There could be a fire that might destroy the property. Your landlord will ask you to pay for such a loss. If you don’t have Renters Insurance, then your out-of-pocket costs might be very high, but having a Renters insurance helps in covering these expenses.
What Does Renters Insurance Cover?
Renters Insurance has three components:
- Personal Belongings Insurance: As the name suggests, this covers the belongings damaged within the premises. Policies might pay the actual cash value, which is the value of the damaged belongings at the time of the occurrence of the damage, or it may pay the replacement cost.
- Liability Protection: This covers the harm or injury caused to anyone on or near the premises due to the damage. This even covers bodily injuries. These would have been the liability of the renter in the absence of the insurance.
- Additional Living Expenses: Expenses incurred due to the inability to live in the damaged property and due to temporally living in other premises. Some policies pay for the temporary accommodation on an actual basis while some put a cap on the monetary value of such compensation.
How Much Is Renters Insurance?
On average, annual Renters insurance costs around $400 in the US but there are some variations in various ZIP codes. This gives a coverage of $40000 for loss of personal property, $100000 in liability protection, and $1000 in deductibles.
Travel insurance covers unforeseen events that can happen while traveling. This can include medical events, accidents, and accidental death, baggage or rented item damage and at times even ransom money.
Lost passport, flight cancellations, and many such events are covered under travel insurance so it is very good coverage for frequent travelers.
However, very few people opt for it. Because everything you pay to get it gets lapsed if the covered events don’t occur. The chances of such events are also, however, medical bills might be very high in certain chronic cases so people with such diseases should opt for it.
Pet Insurance is analogous to health insurance but it is for pets. Having a pet is expensive because the Vet bills are very high at times. Pet Insurance covers a part or whole of these Vet bills.
Further, these even cover the annual expenses that come as a regular expense of owning a pet. These might be booster shots or dental cleaning for pets.
The monthly expense of Pet Insurance ranges between $20 to $35 as per the HealthyPaws pet insurance company. However, it may vary depending upon the health of the Pet.
All insurance policies work at the same thing, i.e. protecting the at-risk party against the insured events. Premiums are paid to acquire the policy and in case the insured event occurs, the insurance company pays the state claim amount to the insured.