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Insurance Basics

Insurance Basics

Personal insurance products protect income, health, and property. I like to begin discussions of insurance coverage with a somewhat philosophical question: What exactly is insurance for? The bottom line is that Insurance is for mitigating risks that pose an existential danger to our household. That is, death, disability, liability, and property damages that would be devastating to our family finances. Insurance is not for the little things, such as minor fender benders. Furthermore, since some insurance products are needed to cover us over many years, we want the assurance that we are dealing with good insurance companies

Generally, you should consider several types of insurance to protect your household (listed below). Note that you may not need all of these policies; need depends entirely on circumstances. 

 

Disability Insurance

Disability insurance protects your income in the event a debilitating illness or injury precludes you from working, or makes you less productive at work. The complexity of disability policies makes them confusing. There are two types of disability insurance: short-term and long-term. Short-term DI offers a limited benefit period of 3 to 6 months, has very short elimination periods of less than two weeks, and covers up to 80% of your gross monthly income. It is usually provided by your employer. Long-term disability may provide benefits over 2, 5, 10, 15, 20 years, or until retirement age (65 or 67), has elimination periods ranging from 30 days to two years, and covers up to 60% of gross monthly income. It may be offered by an employer or purchased privately.

Why do insurers limit long-term policy benefits to 60% of income? The answer is simple. They want disabled clients to have an incentive to return to work. 

Many employer-sponsored (group) policies provide limited coverage and terminate when employment ends. Consider obtaining a private portable long-term DI policy that remains in force when you change jobs.

Some desirable disability insurance policy features, which may be referred to as riders, include:

  1. Automatic coverage increases. These allow you to increase coverage (benefit levels) over time without having to submit to further medical testing. Your premiums increase with higher coverage. 
  2. Non-cancellable and guaranteed renewable. Combined, these terms guarantee that if you continue to pay your premiums on time, the insurance company cannot cancel your coverage, raise your premiums or change the terms of your policy without your consent.
  3. Own occupation. With a standard disability policy, your benefits usually end when you’re healthy enough to rejoin the work force, in any capacity. With an own occupation policy, you may be eligible for continuing disability benefits if you cannot perform your previously specified occupation. A more narrowly defined “own occupation” is generally advantageous for you, although it may require a higher premium. 

Insurers offer various other disability riders, but most come at additional cost and are rarely worthwhile. For more details check out the Disability insurance section in e-Book 1.

 

Property and Casualty (P&C)

Property and Casualty insurance, also referred to as P&C insurance, covers damage to, and liability associated with, a home, auto, boat, plane, or motorcycle. Personal policies generally don’t cover business exposures so you’ll need separate policies for your personal household and business. 

Property insurance protects against damage or loss to property such as a home, vehicle, or business. Coverage usually extends to instances of theft, collision, fire, and some weather damage. Protection against floods and earthquakes must often be purchased separately. Casualty or liability insurance covers an individual in cases where negligence or an act of omission causes injury to another person or another person’s property. For example, automobile insurance provides liability coverage in the event a driver is deemed to have been responsible for an accident. Standard homeowner and automobile policies may limit liability coverage to an amount in the range of $200,000 to $300,000, but a serious accident can lead to much higher liability. The upshot is that you may be personally liable for any excess above the covered limit. I strongly recommend you extend liability coverage through the use of a Personal Umbrella or Personal Catastrophe Liability (PCL) insurance policy. 

In the context of P&C insurance, a deductible is the dollar amount that must be paid by the insured, before the insurer begins to pay benefit(s). Usually, by electing higher deductible amounts you can reduce your premiums. This is because you’re accepting more of the risk, and the insurer rewards you by reducing your premiums. Consider selecting higher deductibles to lower your annual premiums. This can be a cost-effective approach when you have sufficient cash on hand to cover the cost of minor mishaps.

 

Life Insurance

Life Insurance protects survivors when a breadwinner dies. It’s one of the more important areas of financial planning because not having appropriate insurance in the event of a tragic death can be financially devastating for a household. 

There are two types of life insurance: term and permanent. Term Insurance provides coverage in the event of the insured’s death, but coverage applies only over a specified period of time, or Term. Typical terms are ten, twenty, and thirty years. Term insurance tends to be quite affordable, but the premium depends on state of health at time of application. A healthy person in her early thirties could pay less than $500 per year for a twenty-year, $1 million death benefit policy. An unhealthy smoker could pay multiples of that amount. Permanent insurance remains in force as long as you continue to pay your premiums. Thus, properly maintained permanent insurance will pay death benefits when you die. Coupled with the ability to accumulate cash value in a permanent policy, these two features explain why, for a given death benefit amount, permanent insurance costs much more than term insurance. 

It is unlikely that your circumstances call for a permanent policy. The vast majority of consumers are better off with a Term policy selected to expire when the household accumulates sufficient means to no longer need coverage. For many young doctors, this is likely to correspond to a twenty- or thirty-year term policy. E-Book 1 lists some potential providers of term life policies and describes the application process

 

Other Insurance Policies

Other policies you may wish to consider:

  1. Long-Term Care insurance pays for assistance in the event a person cannot perform certain activities of daily living due to disability, illness, or cognitive impairment. The person in question may be yourself or a loved one such as an elderly parent. 
  2. Medical Malpractice insurance protects medical professionals from liability associated with negligent or wrongful practices. The insurance may also cover the legal costs of defending against such claims.
  3. Legal Insurance covers personal legal expenses for estate planning, debt collection, identity theft defense, tax audits, and the purchase, sale, and refinancing of a primary home. 
  4. Health, Dental, and Vision insurance

Legal insurance and Health, dental, and vision insurance are typically provided by your employer. Speak with your human resources representative for coverage details.

Insurance policies offered through an employer, known as group policies, may expire when you leave your job. Also, many employer-provided policies offer limited coverage, so it can be advisable to supplement them with private insurance. This applies in particular to disability and life insurance policies. When you obtain your own portable private insurance, you don’t lose it when you change jobs—as long as you continue to pay premiums in timely fashion.

When it comes to insurance, there’s a lot to know. The key is to get just the coverage we need and avoid paying for unnecessary frills.

Some final thoughts:

  1. Get multiple quotes from independent sources who are not beholden to one specific insurance company’s products
  2. Only consider policies from reputable companies with a good track record
  3. Shop around. Your coverage may be in effect for decades. A small annual price difference may seem trivial but over decades those small amounts add up
  4. As your wealth increases, consider reducing your life and disability insurance coverage

Insurance may seem like an unnecessary expense for something you’re unlikely to need—until you need it!