Over-Insured: The Unseen Cost Of Insurance

While it's important to have insurance to protect against risks, it's possible to be over-insured, meaning you have more insurance than you need. This can be costly, as you'll be paying higher premiums than necessary. People can be over-insured in several ways: they might have duplicate policies, coverage they don't need, or policies that far exceed the cost of a potential loss. For example, a $5 million life insurance policy is likely to be excessive for most people. Being over-insured can also tie up money that could be invested elsewhere.

Life insurance: people are often over-insured through life insurance policies

While insurance is important to protect against different risks, it is possible to be over-insured, meaning you have more insurance than is actually needed. This can happen when people have more insurance than they can afford or need. Life insurance is one of the areas where people are most likely to be over-insured.

How to know if you are over-insured

To determine if you are over-insured, review your insurance policies and look at policy amounts, premiums, and covered risks. Ask yourself if the policy amounts are excessive. Coverage amounts should be based on need. For instance, most people's financial obligations do not justify the high cost of a $5 million life insurance policy.

Life insurance

The biggest area where people tend to be over-insured is through life insurance. People are often sold cash-value life insurance policies as good retirement savings vehicles. While this may be beneficial from a tax standpoint, taking out a large life insurance contract can make you more valuable dead than alive. Being over-insured can also provide an incentive for people to want you dead.

What to do if you are over-insured

Being over-insured does not mean slashing insurance across the board. Instead, look at making adjustments to use your insurance dollars in a smarter way. To reduce insurance costs, you can adjust your coverage, raise your deductible, ask about discounts, bundle your insurance, or shop around.

How to calculate how much life insurance you need

To calculate how much life insurance you need, look at your gross salary, financial obligations, and dependents. Most financial experts suggest aiming for 10 to 15 times your income. You can also tally up your long-term financial obligations (expenses and debts, including a mortgage) and subtract your resources (savings and liquid assets). That will give you the amount of coverage you need.

How to lower your life insurance coverage

If you have more coverage than you need, you can contact your insurer or agent to decrease your coverage amount. You can also cancel a term life insurance policy at any time without penalty.

Homeowners insurance: people often insure their homes for the market value, rather than the replacement cost

People often insure their homes for the market value, which is the amount a buyer would pay for the house, rather than the replacement cost, or the cost to rebuild the home. This is a mistake, as the market value of a home is influenced by factors such as location, crime rates, and the value of the land, which are irrelevant when it comes to insuring your home.

The replacement cost of a home refers to the amount it would take to rebuild the home from the ground up, including the cost of materials and labour. This can be estimated by considering the square footage of the home, the type of materials used, and the current cost of labour and materials in the area. It is important to have a professional assess the replacement cost of your home every few years, as the costs of rebuilding may increase over time.

Most homeowners insurance policies are based on replacement cost, not market value. This is because the replacement cost is a more accurate representation of the true cost of rebuilding a home in the event of a disaster such as a fire or storm. If your home is insured for its market value rather than its replacement cost, you may not have enough coverage to rebuild in the event of a loss. On the other hand, if you overestimate the replacement cost, you will end up paying higher premiums for coverage that you don't need.

To ensure that you have adequate coverage, it is recommended that you insure your home for 100% of its estimated replacement cost. You can also consider adding coverage enhancements such as extended replacement cost or guaranteed replacement cost to provide an additional layer of protection. By taking the time to understand the difference between market value and replacement cost, you can make sure that you have the right amount of insurance coverage for your home.

Auto insurance: people may have comprehensive and/or collision coverage on a car that isn't worth much

While it's important to have insurance to protect against risks, it's possible to be over-insured, meaning you have more insurance than you need. In the case of auto insurance, people may have comprehensive and/or collision coverage on a car that isn't worth much, which could result in them paying higher premiums than necessary.

Comprehensive insurance covers damage to your car caused by a variety of non-collision accidents, such as weather events, falling objects, theft, and vandalism. Collision insurance, on the other hand, covers damage to your car from colliding with another object, such as a car or a guardrail. While these coverages are valuable and often required if you have a car loan or lease, they may not be worth the cost if your car has a low market value.

When deciding whether to keep comprehensive and collision coverage, consider the value of your car. If your car is only worth a few thousand dollars, the potential insurance payout may not be worth the price of the coverage, especially if you have a high deductible. In this case, you may be better off saving the money you would spend on premiums and using it to replace your car if it's totaled.

However, it's important to note that lenders and leasing companies typically require comprehensive and collision coverage to protect their interest in the vehicle. If you have a car loan or lease, you may not have the option to drop these coverages until your loan is paid off. Additionally, some states may require collision and comprehensive insurance, so be sure to check your local regulations.

Ultimately, the decision to keep or drop comprehensive and collision coverage depends on your individual circumstances. Consider the value of your car, the cost of the coverage, your financial situation, and the likelihood of needing to make a claim. If you decide to drop these coverages, make sure you have a plan in place to replace your car if it's lost or damaged.

Long-term care insurance: people often insure 100% of expected long-term care costs, but about 20% of these costs are for essentials they would already have

Long-term care insurance is designed to cover long-term services and support, including personal and custodial care in a variety of settings such as your home, a community organisation, or another facility. It is usually very expensive and covers all or part of assisted living facilities and in-home care for people aged 65 or older, or those with a chronic condition that requires constant care.

Long-term care insurance policies reimburse policyholders a daily amount (up to a pre-selected limit) for services to assist them with activities of daily living such as bathing, dressing, or eating. People often insure 100% of their expected long-term care costs through long-term care insurance. However, about 20% of these costs are for essentials they would have to pay for anyway, such as food, utilities, and other basic living expenses.

When considering a long-term care insurance policy, it is important to read the fine print carefully and compare the benefits to determine which policy will best meet your needs. The cost of your long-term care policy will depend on several factors, including your age, the maximum amount the policy will pay per day, and the maximum number of days it will pay out. It is also important to be aware that insurance companies may raise premiums over time.

Before purchasing a long-term care insurance policy, it is advisable to consult a financial advisor to ensure that you are not over-insuring and that the policy fits within your budget.

Redundant coverage: people may have multiple policies that cover the same risks

Redundant coverage occurs when an individual has multiple insurance policies that cover the same risks over the same period of time. This often happens when an individual believes that a single policy cannot adequately protect them against a particular peril.

For example, an architectural or engineering firm may carry both commercial general liability (CGL) and professional liability (PL) insurance. Depending on the allegations and any facts that may be proven about something that goes wrong on a job, both policies may cover the claim. This is particularly likely if a lawsuit alleges only general negligence rather than professional negligence, even though much of the company's work may be considered professional in nature.

Another example is when a person enters Medicare while they are still working, resulting in two health insurance policies.

In the case of concurrent insurance, the insured must refer to the terms of their policies to determine how the insurance companies will respond to the same claim. Some policies may pay on a pro-rata sharing basis, meaning they divide the payments with the other companies. Other policies may designate themselves as primary or excess. Primary policies always pay claims first, while excess policies wait until the other contract has paid before making payments. Some contracts may even offer no coverage in the event of a duplicate policy, rendering the extra coverage worthless.

It is important to note that attempting to obtain multiple payouts for the same claim is considered 'double dipping' and is unlawful.

Frequently asked questions