Insurance 101

Most likely, you have at least one form of insurance (health insurance, car insurance, life insurance), but do you know how it works?

Essentially, when you buy insurance, you’re buying protection against unexpected financial losses, whether you ever actually use the coverage or not. 

An insurance policy is a financial contract between a policyholder (you) and an insurer (the insurance company). The insurer agrees to pay for damages in the event that the policyholder suffers a type of loss named in the policy. The policy usually lasts for a specified amount of time, also known as a “policy term,” after which you’ll have to renew your coverage. 

In return for this peace of mind, the policyholder pays the insurer a specified amount called a premium. These are usually paid in monthly installments, but can also be paid annually or in other agreed-upon intervals. 

Almost all types of policies have a deductible. A deductible is an amount you must pay out of pocket before the insurance company starts putting anything toward your bills. For example, say you bought an auto policy with a $1,000 deductible and you get in a crash that results in $5,000 worth of damage. You’ll have to pay that first $1,000 before the insurance chips in and pays the remaining $4,000. 

Why would insurance companies offer to pay all that money to help you? They’re betting they won’t have to. If you’re an insurance company collecting hundreds of dollars each month from millions of people, you can afford to shell out a couple thousand every once in a while. To save as much money as possible, insurance companies use a process called underwriting.

When you buy a policy, insurers evaluate your risk factors and estimate the statistical likelihood that something bad will happen, or how likely it is that they’ll need to pay for it. For example, if you’re buying a health insurance plan, but you have diabetes and smoke cigarettes, there’s a higher chance that you’ll get sick, and therefore the insurance company will have to step up and pay for your medical needs. Because of this, they’ll either charge you a higher premium or turn you away altogether. 

The higher the deductible, the lower your premium will be. The higher your premium, usually, the lower your deductible. Lower monthly payments may seem like a good idea until something happens and you’re stuck paying thousands of dollars out of pocket for an accident you weren’t expecting, so keep that in mind.

 

Here are the top three insurances you should be considering in order to protect your future income and savings:

1. Life insurance – If you have a family and you love them, you need life insurance. Term life insurance covers you for a set amount of time, say the span of time when your children aren’t yet adults and can’t provide for themselves. In this case, the insurer will pay a lump sum to your beneficiaries should you die while the policy is in effect. Permanent life insurance lasts your entire life and pays a benefit when you die. It’s more expensive but has a cash value that builds over time. 

2. Long-term care insurance – Retirement savings may not be enough. In 20 years, the cost to cover three years of senior care could exceed $300,000, and according to Medicare’s estimates, at least 70% of people over 65 will need care services during their lifetime. In case you hadn’t heard, costs are expected to jump dramatically (more than double) in the coming years. For example, a private, one-bedroom in an assisted living facility in Virginia cost $47,880 in 2014 but will cost $116,217 by the year 2044. Check out this map to learn more: https://www.genworth.com/aging-and-you/finances/cost-of-care.html

3. Long-term disability insurance – An injury or illness can leave you without income for a long time. While one in four of today’s 20-year-olds has a chance of becoming disabled before they retire, only 29% of Americans own disability insurance. If you don’t have disability insurance or you want to add to the benefits you receive through your workplace, you can expect to pay between 1% and 3% of your gross salary annually for the premium. Most disability policies pay out 40% to 60% of your base salary. Keep in mind, if you pay the premiums yourself out of a supplemental policy, those benefits will be tax-free. If your employer pays them, then you will be taxed, which means less money coming to you.

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