What risks do you face? What are the various types of insurance available to deal with those risks?
Dealing with Risks
Risks are part of our daily lives. Moderate physical risks include slipping in the bathroom. Emotional risks involve rejection, like when asking for a raise. We take one of two broad approaches to containing risk: mitigation and transfer.
Mitigation involves taking steps to reduce the likelihood of a risk occurring. If it does occur, mitigation lessens its impact. Mitigation can never fully remove risks. Thus, the next best choice is to transfer the risk to someone else.
Insurance to Help Transfer Risk
Insurance is the financial mechanism available to transfer risk to another party. That transfer, of course, does not happen for free. The party that takes the risk on our behalf will do so for a price.
Each one of us is different. We are exposed to different types of risks depending on a variety of factors. For example, if you never go skiing, you can’t break a bone from a skiing accident. If you smoke often, the risk of smoking related illnesses is much higher than if you didn’t smoke.
Even when exposed to the same risk under similar circumstances, two people deal with it differently. For example, your friend often buys trip insurance. They do this to protect themselves against lost baggage and changes in travel plans. But you have chosen to never buy any trip insurance. You calculated that the funds you saved by not buying trip insurance can cover a loss when it occurs. This would be useful in the rare event you canceled a trip. In effect, you chose to insure yourself against this type of loss. Please note that trip insurance is not the same as travel insurance. More on that in the section on travel insurance.
The goal of this article is to help you think about various risks. It aims to help you understand what risks you are interested in transferring to a third party. Note that the cost of insurance is often an important aspect of deciding if you want to buy that protection. Yet, the costs vary widely depending on age, location, and personal circumstances. Thus, we leave it up to you to decide those insurance costs for your circumstance. It’s easy to get a quick estimate from insurance websites or from your insurance agent.
The rest of the article focuses on a variety of risks we choose to transfer using insurance products. We won’t get into the mitigation of those risks. Our focus is on helping you think about transferring the risk to a third party by buying an insurance product.
Various Insurance Products
Health Insurance
The purpose of health insurance is to cover medical expenses, both routine and emergency. Health insurance helps mitigate the risk of unexpected medical costs, which can be financially devastating. This includes routine doctor visits, prescription drugs, surgeries, and hospital stay.
Different countries in the world have different approaches to providing health insurance coverage. Where you get such coverage as part of your benefits as a resident or citizen, there’s not much to do. Yet, even in many such countries with single payer healthcare systems, a private marketplace exists. People can buy insurance for situations or levels of coverage not offered by the government.
Our Perspective
Let’s separate this into three categories: routine and expected expenses, unexpected expenses, and uncovered expenses.
Routine and expected expenses are those incurred by most people on a regular basis. These often have low, fixed costs. They include flu treatments, annual physical examinations, and monitoring a range of health metrics. We strongly encourage budgeting for such expenses. Follow the recommended schedules for routine care. This approach can help find potential health problems early. Many health insurance plans include routine expenses as part of their coverage to prevent higher costs in the future. You should be aware of which routine expenses are covered. Budget for extra health needs not included in your plan. Consider increasing your coverage accordingly.
Unexpected expenses, like costs from an accident or contracting a disease, form the basis of typical health insurance coverage. These are risks you want to shift to a third party. An accident or a disease is hard. Do not compound that by having to pay from your savings.
The third category is uncovered expenses. Even the most generous insurance plan has its limitations. Alternative medical practices like Homeopathy are generally not covered. Experimental drugs or procedures are also not covered even if the patient is convinced that’s the right approach for them.
The first proactive step you can take towards mitigating this risk is to save for it. Where possible, save in a tax advantaged fund. In the United States, you have access to a Flexible Spending Account or a Health Savings Account. If you have specific concerns about some types of illnesses, identify them and research insurance plans. Make sure that these plans can handle treatments for those ailments. You can consult with a healthcare consultant to get professional advice. Explore any supplemental insurance coverage you are capable of purchasing to cover specific illnesses or situations. When you are in a situation requiring care, work with your doctor to document your situation. Also, look for treatment options that are covered by the policy. Working with a patient advocate or a legal professional can help navigate the complexities of insurance coverage.
In summary, a practical plan to deal with the risk of uncovered expenses involves several steps. First, be prepared with savings. Second, know your insurance plans. Finally, understand how much of your savings you can spend to recover your health. You are likely to be emotionally or mentally incapable of dealing with the situation when you are in it. Hence, this preparation should happen well before you find yourself in such a situation. Acquisition of savings, knowledge, and perspective take time and effort. All three are general purpose tools that can be employed to handle other types of risks.
Auto Insurance
The purpose of auto insurance is to protect against financial loss due to accidents, theft, or damage. It covers risks linked to vehicle ownership. These include accidents and liability for injury to others. It also covers damage to the vehicle from events like theft or natural disasters.
Our Perspective
Let’s split this into three categories of risk. First is the risk that you cause an accident, and your victims need to be compensated for their loss. Most jurisdictions around the world will mandate that you carry liability insurance to protect your victims. Buying liability insurance is your best bet to transfer this risk to another party. One risk of operating a vehicle is the potential for unlimited damage. There is no theoretical upper limit to the damage you can cause. In some situations, like severe injuries or significant property damage, the coverage offered by your policy will not be enough. You can prepare yourself to handle the risk of severe liability by maximizing your coverage limits. You can also buy supplemental insurance. Alternatively, you can buy an umbrella insurance policy. Such additional coverage typically carries a lower incremental premium and will well be worth the relatively small increase in premium.
The second category of risk is theft or damage to your vehicle due to vandalism or weather events. These incidents are generally less frequent. When they occur, they do not involve the entire vehicle. This makes them less expensive to manage. Comprehensive coverage can help protect you against these risks. The third category is damage caused to your vehicle while operating it. Collision coverage can be purchased to transfer this risk to another party.
These two risks, theft/damage and collision, have an upper limit. They are limited to the replacement value of the vehicle. Consequently, in the worst case, you risk having to bear the expense of replacing your vehicle. The older your vehicle, the less expensive it is to replace it. We recommend buying collision and comprehensive coverage on relatively newer vehicles. Once they depreciate to a price point you can afford, you can cover the expense with your savings. At that point, you can stop buying this coverage and effectively self-insure. Over a lifetime of owning several vehicles, you are going to save money.
Homeowners or Renters Insurance
Homeowners or renters’ insurance is designed to protect your home or belongings from potential damage. It also covers liability for accidents occurring on your property. Homeowners insurance typically includes coverage for risks like fire, theft, and natural disasters. It also covers liability for injuries occurring on your property. Renters insurance offers similar protections for personal belongings and liability for renters.
Our Perspective
Most of us place significant emotional and financial value on our homes. Therefore, it is essential to safeguard your property from such risks. If the cost of insurance seems high, consider accepting a higher deductible can help lower the cost of insurance premiums. It lets you protect yourself against major calamities while taking responsibility for smaller, predictable losses.
Life Insurance
Life Insurance is designed to offer financial support to dependents in case of the policyholder’s death. Life insurance covers the financial risk linked to the loss of income due to the death of the insured individual. This is especially important for those with dependents who rely on their income.
Our Perspective
It’s straightforward when you have dependents relying on your income. You will need to protect your dependents from the risk of loss of income. At some point, however, you retire and start relying on pension or social security. You may even earn passive income from your investments. Does it make sense to buy life insurance at that point? Loss of income is no longer a risk to worry about. Those funds can be be invested elsewhere instead of paying life insurance premiums. As you get older, the life insurance premiums increase because you are closer to death.
Bottom line is you should understand the risk you are trying to transfer by buying life insurance. Once you no longer face that risk, it does not make sense to pay to transfer a non-existent risk.
Disability Insurance
Disability insurance is designed to offer income replacement if the policyholder becomes incapable of working due to a disability. It covers the risk of losing income due to an injury or illness. This can prevent one from working, either temporarily or permanently.
Our Perspective
This is like life insurance. Both are designed to replace your income from work, so our perspective is about the same on both. Protect yourself from these two risks while you are working. However, when you retire, you no longer need the income protection. However, there is one significant difference if you become disabled. You are still around, and your expenses go up to care for yourself. Otherwise, be prepared with enough passive income to handle the costs of caring for yourself. Research welfare benefits like Social Security and coverage extended by your health insurance.
Pet Insurance
Pet insurance covers the financial risk of unexpected veterinary costs due to illness or injury to a pet.
Our Perspective
Your pet is a member of your family. You are responsible for its quality of life. As with humans, pets need routine care and many face common illnesses and occasional accidents. Pets, like humans, also have chronic diseases and medical emergencies that need expensive diagnostic tests and treatments. If you are not ready for such a surge in expenses, research pet insurance. Make sure to buy the right type of pet insurance.
Bottom line, is we think of pets as members of the family. They are helpless and rely on you. Adopting a pet includes assuming the risk that they need medical care. Be prepared.
Travel Insurance
Travel insurance provides protection against financial losses related to travel. These can include trip cancellations, medical emergencies, or lost luggage.
Our Perspective
A typical travel insurance policy addresses two types of risks. The first provides coverage for financial costs related to transportation and lodging. The second offers coverage for medical emergencies during travel. The costs of flight cancellations and hotel reservations are fixed. With proper planning, you can further reduce the impact of such costs. However, the risk that should be of primary concern when traveling is the cost of a medical emergency. These costs could be substantial depending on your destination and medical situation. Therefore, it is wise to transfer this risk to an insurer. It is essential to carefully research and understand the risks being covered when purchasing a travel insurance policy.
Many travel insurance plans do not cover complications arising from preexisting conditions. However, your regular health insurance may provide some coverage in areas where you are traveling. Pay attention to in-network and out-of-network coverage differences. In-network providers might be unavailable when you travel outside of your metropolitan area.
The key takeaway for travel insurance is to focus on covering medical emergencies. These medical emergencies can result in significant financial hardship. If medical emergency coverage is available, the cost is worth considering as a necessary part of your travel expenses. Adjust your travel itinerary to fit your budget. Also, factor in medical coverage costs. This ensures you are not left vulnerable to the high costs of a medical emergency far from home.
Umbrella Insurance
Umbrella insurance is designed to provide additional liability coverage. It goes beyond the limits of standard policies like auto or homeowners insurance. It covers liability risks that exceed the coverage limits of other policies, protecting against large lawsuits or claims.
Our Perspective
Umbrella insurance offers a cost-effective way to acquire excess liability protection. It extends beyond the limits of standard insurance policies, like auto or homeowners’ insurance. This insurance is essential for individuals with significant savings or high-value assets. It is also crucial for those engaged in activities that increase their liability. An umbrella policy can offer valuable protection in a variety of situations, shielding your assets from legal claims and liabilities. Since the premiums are generally affordable, the peace of mind they offer is often well worth the investment. It is important to note that you must maximize the liability coverage on your primary policies for umbrella insurance. It will only kick in once those limits have been exceeded.
While we are on the topic of legal liability threatening your financial welfare, note something important. Certain classes of savings are protected from certain claims. For example, in the United States, retirement savings plans offer some protection against creditors and legal liabilities. Research and understand these protections in your jurisdiction. This will help you know what coverage you would need from an umbrella insurance policy.
Conclusion
In conclusion, we face many types of risks in life. There is a wide range of insurance policies available. These policies help transfer these risks to another party. The key to effective risk management through insurance is understanding the specific risks you face. It’s important to research available policies carefully to see how well they protect against those risks. First, thoroughly understand your unique risks. Then, identify the most appropriate insurance policy to transfer those risks. If an insurance policy is expensive, consider increasing the deductible where available. This lets you assume risk of small fixed costs while allowing you to insure yourself against large losses.
If a particular type of risk is not covered here, use the principles from this article. Apply them to assess that risk. Then, explore relevant insurance options. Remember that your circumstances change over time. It is important to periodically reassess your risks. Update your insurance coverage accordingly.
Please note that this should not be construed as specific insurance or legal advice. View this discussion as a tool to raise awareness of different types of risks. It provides perspective on how you can transfer those risks to other parties through appropriate insurance policies.
Subscribe to receive updates in your email: