Five Essential Tips to Prevent Over-Insurance
Do You Have Too Much Coverage?
An important part of my job as a financial planner is to identify and mitigate financial risks through insurance. For example, the sudden death of a family member could derail your family’s goals, making it a serious risk to your family’s financial well-being. This risk can be reduced through life insurance.
Although it’s important to have insurance to protect against these risks, there is a cost (not just in dollars) to being over-insured. Here are a few rules of thumb to prevent you from being over-insured.
Life Insurance
Purchase Only What You Need
The biggest area I see people over-insured is through life insurance. Many times, a person is sold a cash value life insurance policy as a good “retirement savings vehicle.” Although this “retirement savings vehicle” may be good to have from a tax standpoint, by taking out a massive life insurance contract, you’re paying more in premiums than necessary.
Although it is important to have life insurance to provide your family with a source of income in the event of your death, being over-insured can tie up dollars that could be invested elsewhere.
Avoid Unnecessary Riders
There are so many life insurance riders, it’s not possible to cover each one in detail. But know this: riders wouldn’t exist if the life insurance company didn’t make money from them. Buy riders that meet your unique needs, and steer clear of riders that are too complex or sound too good to be true (because they usually are!).
Homeowners Insurance
Understand the “Replacement Cost” of Your House
The “replacement cost” of your house and the market value of your house are two separate amounts. The value of land is included in the market value of your house but should not be included in the “replacement cost.” When you insure your house, you are insuring the replacement cost, or the cost to replace your house in the event it was destroyed. Having your house insured for the true “replacement cost” of your home rather than the market value of your home can reduce your premiums.
Auto Insurance
Avoid Having Comprehensive & Collision Coverage on a “Beater”
You should have personal liability insurance on all cars you are driving, but having comprehensive and/or collision coverage on a “beater” is pointless. Ask yourself this: If this car was totaled tomorrow, could I afford to replace it immediately with little to no impact on my finances? If the answer is yes, skip the comprehensive/collision coverage and pocket the reduced premium.
Long Term Care Insurance
Only Insure 80% of Expected Long Term Care Costs
Long term care insurance is designed to cover some or all of the additional costs of long term care. About 20% of the cost of care in most nursing homes is for essentials (meals, laundry, cable, meds) that you would already have, hence the 80% rule. For example; if the average expected cost of a private nursing home room is $215/day, purchase $175/day of coverage, not $215/day. Be sure to take into account other factors that are unique to you such as no longer having travel expenses. This will result in a significant reduction of premiums because changing the daily benefit up or down on long term care insurance policies changes the premium by the same percentage.
Over-Insured Conclusion
In general, the cost of being over-insured is the increased cost of premiums and riders that aren’t needed. By eliminating these unnecessary costs, you can potentially save hundreds, or even thousands, of dollars per year and reallocate those savings toward other, more exciting spending goals.
Adam J. Glassberg
Financial Advisor
CFP®, CIMA®