Chapter 22: Protecting Saved Money
Billy Ray Valentine: ”That was a cheap vase, right? That was a fake? Right?”
Randolph Duke: “I believe we paid $35,000. But if I remember correctly, we valued it for the insurance company at $50,000. You see, Mortimer? William has already made us $15,000.”
– Trading Places (1983)
Disability insurance and life insurance protect your human capital and replace your income if something bad happens to you. But what about your hard-earned net worth? Natural disasters, accidents, theft, lawsuits…all have the potential to put a big dent in your savings, even wipe them out entirely. To protect against this, you need property and casualty insurance.
Broadly speaking, property insurance pays you if your property—home, car, boat, etc.—is damaged or stolen. Casualty insurance pays if you are found to be at fault (liable) for causing damage to others via your home, car, boat, etc. Most policies combine the two. The most common types of property and casualty insurance for individuals are automobile insurance, renters insurance, and homeowners insurance.
It’s useful to think for a moment about how insurance companies make money. They collect premiums from many thousands of customers and sometime later pay claims to a few. The goal is to collect more than is paid out. In the meantime, they get to invest the premiums. As Warren Buffett, the fabled chief of one of the largest insurance companies, put it, “This combination allows us to enjoy the use of free money—and, better yet, get paid for holding it.” 
Right away, you can see that insurance companies have a strong incentive not to pay claims. One way they do this is to limit what is covered from the get-go. So-called named peril policies have a list of the kinds of losses that will be covered. For things not on the list, you’re on your own. Open peril policies pay for any loss but list certain exclusions. For example, one of the major exclusions in most homeowner insurance policies is damage caused by floods.
I am sure you are an above-average driver. We all are. So we can relate to the situation where “The guy was all over the road; I had to swerve a number of times before I hit him.” It’s because that guy is on the road that we need to get auto insurance.
There are several kinds of insurance coverage that come bundled in a policy. Depending on where you live, some of these may be mandatory:
Let’s go through them.
Almost all states require you to have some automobile liability insurance. A typical state requirement is that you have insurance that pays up to $25,000 to each person injured, up to $50,000 for any one accident involving multiple people, and up to $10,000 to pay for property damage. If the actual costs are higher than these policy limits, you owe the difference. Unfortunately, these minimums are not nearly enough if somebody is seriously injured. You should buy $300,000 of liability insurance or more.
Some states also require you to have no-fault insurance. No-fault insurance cuts through the “he-said, she-said.” It pays you if you’re injured regardless of who was at fault in an accident.
Another requirement in some states is uninsured motorist coverage. Since insurance is expensive, you may end up in an accident with someone who does not have any, or maybe has just the bare minimum. Even if they legally owe you, they simply may not have the money. That’s when uninsured motorist coverage steps in and pays your expenses.
On the other hand, nobody requires you to buy comprehensive or collision insurance because nobody cares if your car is stolen or you crack it up with your above-average driving. You need to decide whether this coverage is worth the cost. If you have a cheap old car because you are saving like mad it might make sense to just skip it.
Auto insurance isn’t cheap. The cost depends a lot on where you live, your age, gender, marital status, driving record, credit history…even your grades if you are still in school. The major things you can do to lower the cost of auto insurance are:
- Own a cheap car
- Maintain a clean driving record
- Buy less insurance (but don’t skimp on liability coverage)
- Shop around to get multiple quotes; repeat every few years
- Increase your deductibles (the amount you pay out of pocket before the insurance kicks in)
- Qualify for safe-driver, good-student, and other discounts offered by the insurer
- Maintain a good credit score
- Get renters or homeowner’s insurance from the same insurance company to get a discount
You can also get discounts based on how you drive (so-called usage-based insurance.) By letting the insurance company track your driving, through a device installed in your car or through your smartphone, you may be able to pay less. If you only drive occasionally you can even buy insurance by the mile.
You want an auto insurance company that has low premiums and doesn’t give you hard time if you need a claim paid. You can readily get quotes from most large insurers by going to their websites or calling an agent. The five largest are: State Farm, Geico, Progressive, Allstate, and USAA, but there are many others. Make sure to compare costs for similar coverage. You can compare quotes online through the agencies listed at the end of the chapter. You can also go to an independent insurance agent in your area to see if there are good deals to be had among lesser-known but reputable insurance companies.
The larger insurers all offer usage-based insurance discounts. There are some techy new companies that are taking the concept to the next level. Root Insurance weeds out the riskiest drivers and passes the savings on to those drivers it agrees to insure. Metromile charges a low monthly premium and an additional per-mile charge.
If you are in an accident, even a minor one, call 911. The police will try to ascertain who is at fault and fill out an accident report. This is your best ammunition in a claim and may even be required by the insurance company. Stay calm and objective. Don’t get sucked into arguments. Don’t admit guilt. If possible, get information on the other driver(s) by taking a picture of their license and verifying their address and phone number. If there are witnesses, try to get their names and phone numbers. Take pictures of the accident scene and any damage. Wait until things (and you) are settled down before you contact your insurance company. If the accident is your fault and pretty minor it may not make sense to file a claim. You may be better off paying a few hundred dollars out of your own pocket to avoid an increase in your insurance premiums.
If you rent your home and have a bunch of stuff in it, you should probably get renters insurance. Many landlords require it. If your stuff is lost in a fire, stolen, or otherwise damaged, renters insurance will pay for repairing or replacing it. Renters insurance is usually named peril insurance; if something happens for a reason that is not on the list it won’t be covered. Also, some of your belongings may not be covered—you need to tell the insurance company about fancy jewelry, expensive collectibles, and the like. They may agree to add these for an additional charge.
How much do you get if you file a claim? Basic renters insurance will pay you whatever your stuff is worth when it’s lost or damaged. This is known as the actual cash value. Think of it this way: A ten-year-old couch is worth a lot less than one you just bought a month ago, so you’ll get a lot less for it. With actual cash value you could use the insurance money to buy another ten-year old couch at a garage sale. But that may not be so appealing. Instead, you can opt for replacement cost coverage. This means that the insurance company will pay you what it would cost to buy a comparable—but new—couch today.
Renters insurance also includes liability coverage in case somebody gets hurt at your place or you are responsible for damage to others’ property.
If you own a home, you should get homeowners insurance. It’s required by lenders if you have a mortgage, but important protection even if you don’t. Homeowners insurance will pay to repair or rebuild your house if it’s damaged. Like renters insurance, it also covers your belongings and includes liability coverage in the event someone gets hurt on your property (for example, if your dog bites the neighbor or a delivery guy slips on your front steps).
Homeowners insurance can be either named peril or open peril coverage with exclusions. Understand what is and is not covered by your policy.
Homeowners insurance usually pays at least replacement cost, up to the policy limit you’ve insured the home for. But it’s possible for the cost of rebuilding to be higher. For example, local labor and materials often become more expensive after a natural disaster. To make sure that the full cost of rebuilding is covered even beyond the policy limit you can pay extra and opt for guaranteed replacement cost coverage.
As with auto insurance, it’s smart to get some bids every few years. Insurance companies adjust the estimated cost to rebuild or repair your home every year. You don’t want to be over-insured, paying more premium than necessary. You also don’t want to be under-insured and find out that insurance will only cover a fraction of any loss.
Another way to reduce your premium is to install a centrally monitored fire and burglar alarm. And, as with all types of insurance, if you increase your deductible, you will pay lower premiums.
Some of the big insurance companies that sell automobile insurance also sell renters and homeowners insurance. Again, the best way is to compare what’s covered and get several quotes. As with automobile insurance, a good independent agent can help, or check out quotes from the online agencies listed at the end of the chapter. Some newer tech-driven insurance companies that are hungry for business might give you a good deal. Depending on where you live, check out Lemonade. While originally focused on auto insurance, Root Insurance now also offers renters and homeowners insurance in some state.
As your net worth (hopefully) grows, the liability insurance included with auto and homeowners policies may not be enough. The more wealth you accumulate, the fatter a target you are for a lawsuit. To protect against this you should buy umbrella insurance, which is extra liability insurance that pays out if your other insurance is used up. Umbrella insurance is relatively cheap because it is unlikely that you will use it, but it protects you against rare, large events. Usually it’s a separate policy that insurance companies will only sell you if you have auto or homeowners insurance with them. How much umbrella insurance do you need? As a rule of thumb make sure your auto liability and umbrella coverage are at least equal to your net worth.