Motley Fool Money - Insurance-palooza! All You Need to Know to Protect Your Income and Wealth

Starting point is 00:00:02 You spend your adult life growing your income and net worth. Here's how to protect them from calamity and tragedy. This week on the Saturday personal finance edition of a Motley Fool, a Hidden Jems Investing podcast. I'm Robert Brokamp, and it's the first Saturday of the month, which means it's time for the next installment of our 26 financial planning challenge, which we're calling a year well planned. We spent most of this year discussing how to accumulate and manage your wealth.

Starting point is 00:00:32 This month, we're going to talk about how to protect it. Yes, we're going to talk about insurance. And yes, we know. it's among the least exciting topics in all of personal finance, but it can also be among the most important. I promise that if you stick with us for this episode, you will learn a thing or two about insurance that you didn't know beforehand. And here to help me talk through this safety net audit is certified financial planner and chartered financial analyst Amanda Kish. Welcome back, Amanda. Thank you so much. I'm glad to be back. So let's start off with health insurance. And while I think

Starting point is 00:01:05 folks might consider it the most important type of insurance. It's actually the one we'll probably talk the least about today since most people get it through their employer or maybe the government via Medicare. And you generally can't make any changes to it except during certain times of the year, like open enrollment. And that's generally not in August. That said, we do want to plant some seeds for folks to think about the next time they have to make a decision about their health insurance. So Amanda, what should people be thinking about? So you're right. Most of us are probably stuck on the sidelines right now until that open, enrollment period, but that's actually the perfect reason to start thinking about it now instead

Starting point is 00:01:41 of waiting until November when we're frantically clicking through that benefits portal under threat of a deadline. So the big decision that most people wrestle with is do I want a high deductible health plan versus that traditional PPO or preferred provider award? So the high deductible health plan has a much higher and quite frankly scarier looking deductible, but that usually comes with lower premiums. And importantly, that's your ticket to opening a health savings account or HSA, which is the only triple taxed advantage to count in the entire tax code. And that means money goes in tax free, it grows tax free, and then comes out tax free for medical expenses. So if you've got a high deductible health plan, max out that HSA if you can. And here's potentially

Starting point is 00:02:27 a smart move. You can pay those medical bills out of pocket now if your budget will allow. And it, but save those receipts and let that HSA principle grow untouched for years, possibly even decades, and then you can reimburse yourself for that, you know, that decades-old copay anytime you want as there's no expiration date. So, and with that in mind, that HSA can quickly become one of the best retirement accounts that you'll ever have. But ultimately, the seed I want to plant here is don't just default to whatever health plan you picked five years ago. Make sure you run the numbers, on premiums versus deductible risk versus HSA eligibility every single open enrollment. Yeah, those are excellent points about the HSA. And I'll add that it can also be used to pay for

Starting point is 00:03:14 Medicare premiums, not MediGap insurance premiums, but the main Medicare premiums. And withdrawals can also be used to pay for long-term care and long-term care insurance premium. So it's a very powerful retirement account. All right, let's move on to life insurance. And this is meant to replace the income that is lost when a breadwinner passes away. So Amanda, who needs it and how much do they need? So one way to think about life insurance is that it really is just a form of income replacement. So if people depend on your paycheck, whether that's a spouse, kids, maybe an aging parent, you probably need it in some form. If there's no one that's financially dependent on you, then life insurance may be less of a priority.

Starting point is 00:03:55 So for most working age folks, I think term life insurance is probably going to be your best bet as opposed to something like whole life that retains that cash value. So term life is cheap. It's simple. And it has exactly one job that it does and that it pays out if you die during that term that the policy is in effect. So a common rule of thumb is that you're going to want 10 to 15 times your annual income in coverage. That's just a starting point. I think the more precise method is to actually do the math. So add up what you're trying to cover, whether that's replacing income until retirement, paying off the mortgage, funding college for your kids and then back out whatever you've already got like existing savings or 401k. And then that gap is your target coverage number. And then on term length, you want to try to match it to your

Starting point is 00:04:44 need. So for example, if your youngest just started kindergarten, for example, a 20 year term gets them all the way through college. If your mortgage has 15 years left on it, a 15 year term might work. And don't forget about laddering. And this is the process of buying a couple of smaller, staggered policies with different term lengths instead of just one giant policy. So over time, your coverage is going to step down naturally as those policies expire and also as your obligations shrink. So creating a ladder this way can potentially be cheaper because you're dealing with many numerous smaller dollar value policies instead of one giant one. And it's also a nicer way to kind of taper that coverage as your life situation changes without really having

Starting point is 00:05:32 to put too much thought into it. Yeah, I totally agree that it's best to do some sort of an analysis to determine how much life insurance you need. You'll find plenty of calculators out there on the internet. And, you know, heck, why not let AI have a go at determining how much you need? And I found that each tool will come up with a different number. So I would recommend that you use a few. And if you can afford it, default to the highest amount. The costs of term insurance will depend on your age and your health conditions, but for most people, having an extra $100,000, $200,000 of insurance really won't be that expensive. So it's probably better to play it safe that way. And by using that tool, you can incorporate the insurance that you may already have, which might include

Starting point is 00:06:10 Social Security, since your dependents may be eligible for benefits. So download your Social Security Statement at SSA.gov to see what those benefits could look like. You might also have life insurance to your employer, though I would think about how long you expect to be there, right? So if you don't expect to be with that employer for much longer, I would ignore that when a evaluating how much more you need to buy, since you don't know how much coverage you'll get at your next job. And finally, I'm just going to point out that life insurance payouts are usually tax-free, which I think is an underappreciated benefit of life insurance. All right, so you need life insurance to replace the income of someone who passes away,

Starting point is 00:06:44 but there's actually a greater chance that you'll become disabled and be unable to work before age 65, which brings us to our next form of insurance, disability insurance. Now, fortunately, most of us have some form of disability insurance through Social Security. though it could be problematic, as you may point out. And many of us get additional coverage from our employers, but that may not be enough. So, Amanda, what do people need to know about disability insurance? Yeah, this is one aspect of insurance coverage. A lot of folks tend to not think about until they need it.

Starting point is 00:07:14 And by then, of course, it's too late to shop for it. And as you mentioned, your odds of becoming disabled before 65 are meaningfully higher than your odds of dying before age 65, yet it's far more common for people to ensure the death and ignore the disability portion. So as you mentioned, Social Security disability insurance does exist, but it tends to be, let's say, fairly stingy and notoriously hard to qualify for. So you basically have to be unable to do any substantial work, not just your job. Another option, as you mentioned, employer provided group long-term disability.

Starting point is 00:07:50 That's a great start. Can work very well for many of us, but there are two things that can trip people up. it typically only replaces 50 to 60% of your income, so make sure you know how much coverage you actually have. And then if your employer pays the premiums, then that benefit is taxable when you get it, so that 60% shrinks even further after taxes. And that's where an individual disability policy can fill the gap. I think this can be especially useful for higher earners or people in very specialized fields. So the phrase to look for here is, own occupancy, occupation coverage, meaning you get paid if you can't do your specific job, even if you could

Starting point is 00:08:32 technically work in a different, maybe less demanding field. And that's very different from any occupation coverage, which pays out only if you can't work at all. That own occupation coverage, as you might guess, costs more, but for someone who may be at a highly specialized field, like a surgeon or an attorney, having that own occupation coverage can really be the difference between having real protection and what could potentially be as a staggering coverage gap without it. Due to that higher likelihood of becoming disabled than dying before age 65, disability insurance is going to cost anywhere from two to four times more than life insurance, which will scare some people from buying it.

Starting point is 00:09:11 But you can do a few things to lower the costs, such as choosing a longer elimination period, which is the time between when you become disabled and the time the policy pays out. Then just you have to make sure that you have a good size emergency fund to cover that. time period. You mentioned the employer-provided coverage, very valuable. It is important to understand whether it has a Social Security offset or not. So it might say, like, I'm going to cover, this policy is going to cover 60% of your income, but if you're going to get 15% of your income from Social Security, we're only going to do 45%. So you have to understand how that interacts

Starting point is 00:09:46 with Social Security. And then finally, if you ever have the option of paying premiums with pre-tax or after-tax money, maybe because you're self-employed or your employer might actually give you the option. Most experts recommend that you pay with after-tax money. That way, the benefits will be tax-free. This episode is brought to you by Accenture. When your advertising operations fall out of sync, everything else follows. Spotify and Accenture are working together to reinvent the rhythm of ad sales, using automation, analytics, and smarter workflows to simplify campaign delivery and access better data across the business. The result, less time spent on operations, more time connecting brands with the moments and fandoms that matter most. Learn more at Accenture.com

Starting point is 00:10:36 slash Spotify. All right, so we just talked about the insurance that protects your income, but you can also buy it to protect your stuff if something happens to it. This really comes down to auto insurance and then homeowners, renters, insurance. And both have become a lot more expensive over the past five years, so it's a good time to evaluate not only how much you need, but also whether you can get a better deal somewhere else. Let's start with auto insurance. Amanda, what do fools need to think about? So when it comes to auto insurance, I think one of the first things people tend to get wrong is liability limits. And a lot of folks are still carrying their states bare minimum, which in many states can be incredibly low, sometimes as little as $25,000 per person

Starting point is 00:11:16 for bodily injury. And that sounds fine until you end up, you know, unfortunately, totaling an SUV or it potentially injuring someone, and suddenly that minimum coverage can seem a little inadequate. So I would generally push people towards at least a 100, 300, 100 split in liability coverage if they can afford it. And what that is, is $100,000 per person, $300,000 per accident for injuries, and $100,000 for property damage. And if your net worth is growing, your liability protection should grow with it. And that does tie into umbrella insurance, which will get to. And then on the flip side for something like comprehensive and collision, and that's the coverage that protects your car, you can do the math on whether that's still worth it. So if your car is

Starting point is 00:12:03 old enough that it's worth less than, say, a couple thousand dollars, four or five grand, you might be paying premiums that outweigh what you'd actually collect in a claim. And that's a case where dropping that coverage and self-insuring may make sense. And regardless of any of that, make sure you shop your policy every renewal. So those loyalty discounts you have may be nice, but they may not beat what a simple five-minute comparison across insurers can end up saving you. Yeah, that's all good advice. And this is a good time to point out that insurance in general can vary by state. And this is definitely the case with auto insurance. So definitely take the time to understand what's required in your state, including whether you live in a no-fault state. If so,

Starting point is 00:12:44 you'll likely be required to carry personal injury protection coverage to pay your own medical bills regardless of who causes the accident. And as you point out, Amanda, the minimums in many states are really much too low, and fools should probably increase those amounts that will lead to higher premiums, but that can be counterbalanced by having larger deductibles for your collision and comprehensive. So going from a $250 deductible to a $2,000 deductible can cut your premiums in half or more. Of course, just making sure that you're investing those savings so that they're available if you need to cover those costs after an accident.

Starting point is 00:13:15 All right, let's move on to homeowners and renters insurance, which have some commonalities and some differences. What should people be thinking about here? Okay, so renter's insurance first, because I think this is one of the more underrated $15 a month purchases and personal finance. So a lot of renters tend to skip this coverage because they think, well, I don't own much. Forgetting that the policy also covers liability. So, for example, if you have a guest in your house, they slip and fall in your kitchen. And then it also covers the stuff, say if the building burns down or you get robbed, neither of which is covered by your landlord's policy. So your landlord's insurance protects the building, and that does not include your laptop or your furniture or your other personal belongings.

Starting point is 00:14:02 Now, for homeowners, the big thing to check is whether your dwelling coverage is based on replacement cost or actual cash. value. Actual cash value factors in that depreciation. So let's say if your roof burns down, you might get paid what a 15-year-old roof is worth, not what a new one costs to rebuild. So that replacement cost coverage actually pays to fully rebuild it. And then given how, as we probably know, construction costs have climbed in recent years, I'd also think about looking for a policy that has a built-in inflation guard so that your coverage limit is going to automatically rise instead of potentially quietly falling behind the cost of both lumber and labor. And one big item that both renters and homeowners tend to miss, flood and earthquake damage

Starting point is 00:14:52 are almost never covered by a standard policy. So if you're in a flood zone or potentially even if you're just near a floodplain that has expanded in recent years, that's a separate policy that you need to actively go by, whether through the National Flood Insurance Program or through a private insurer. That's very important to understand what's covered and what's not, right? Is damage from molder termites covered? Is theft of jewelry or other big ticket items covered? What about a home-based business?

Starting point is 00:15:19 So make sure you read your policy and understand what's covered there. Also, it's important to document what you own. So just go around your house or apartment and video all your belonging. So you have proof when you need to make a claim in case of some really bad fire or some other thing where everything is damaged and gone. And this is another category of insurance where it'll lower the premiums by having a larger deductible. But besides that, another reason to have a high deductible is that you really should be filing claims for small amounts anyhow, because that's going to increase the chances that the insurance company will raise your premiums in the future or just drop you all together.

Starting point is 00:15:55 So when it comes to property insurance, it's best to think of it as a way to pay for really big ticket losses and cover the smaller losses yourself. So, you know, if you can afford a $2,000, $3,000, maybe $5,000 deductible, and the savings on the premiums are worth it, that might be the way to go. You talked a little bit about liability insurance, and it is often tied to homeowners or renters insurance. But there's an expanded version, also known as umbrella insurance. What does umbrella insurance cover and how much do people need? So umbrella insurance is kind of an interesting kind of insurance to talk about because it's cheap. cheap insurance that actually matters is rare. So you can think of it as the extra layer of liability protection that kicks in once your auto or homeowner's liability limits gets maxed out. So let's say

Starting point is 00:16:45 someone sues you after a car accident and the judgment against you is $800,000, but your auto policy only covers $300,000. Then your umbrella policy steps in to pick up the rest instead of your house or your brokerage account being on the hook for the remainder. Now, A $1 million umbrella policy typically costs somewhere in the neighborhood of anywhere from $150 to $300 a year, which all told is is incredibly cheap for the protection that it buys. And the general guideline is your umbrella coverage should be roughly equal to your net worth or at least cover the assets you'd hate to lose in a lawsuit. And keep in mind that if things apply to use in your situation,

Starting point is 00:17:27 say you've got a pool, a trampoline, you know, a dog with a little bit of an attitude, teenager who just got their driver's license, your lawsuit risk may be higher than average. So keep in mind that umbrella coverage is one of the easiest and cheapest ways to help you protect all those hard-earned assets. That's remarkable what umbrella insurance can cover, including events away from your home and even outside the country, legal costs for various forms of lawsuits, even things like libel and slander. Plus, as you said, Amanda, it's pretty affordable.

Starting point is 00:17:57 So definitely good enough to cover the assets you could lose in a lawsuit. Now we're going to come to the final type of insurance that we will discuss, which is long-term care insurance. And around two-thirds of people over the age of 65 will need some form of long-term care. It's usually provided by family members, but if you have to pay for it, it can cost between $50,000, $150,000 a year. And on average, it's needed for about three years, though, for around 20% of people, it's needed for five years or longer. So, you know, people who have saved enough might choose to plan to cover these costs with the assets they've accumulated, but another option is long-term care insurance. So Amanda, what's your take on when

Starting point is 00:18:34 this type of insurance makes sense? Yeah, long-term care is the retirement risk that many folks tend to underestimate. So it's not a guarantee that you'll need it, but that that tail risk, that you're going to fall into that small group of people who require very intensive, extended, or expensive care is still severe enough that it deserves some real consideration. So So that kind of traditional standalone long-term care insurance has fallen a little bit out of favor over the years because premiums have really had a track record of rising sharply after people bought policies, in some cases doubling, which has understandably left a lot of folks a little gun-shy about signing up. So one thing that has kind of emerged in that absence is this hybrid life insurance long-term care policies. and those have really grown in popularity in recent years. So with that, you get a death benefit if you never need that care,

Starting point is 00:19:32 and also a pool of money that you can tap for care if you do need it, with premiums that tend to be a little bit more predictable. These hybrid policies are not cheap, but for folks who hate the idea of wasting a premium on care they may never need, that hybrid model does solve that psychological hurdle a little bit. And then the other option, which you mentioned earlier, is self-insuring. So building enough of a cushion in your portfolio that you could cover a few years of care out of pocket if needed. And this option tends to make the most sense for people at

Starting point is 00:20:06 the higher end of the net worth spectrum where the assets are there to absorb the cost, or conversely on the lower end, so where Medicaid can become that backstop much more quickly. It's really the folks in that middle ground who have, you know, maybe enough assets that they're going to lose sleep over it, but not quite enough assets to totally shrug off that risk, who may benefit the most from exploring that long-term care coverage. And one thing I'll mention is that timing on this does matter. So when you're in your 50s, that's usually the sweet spot to shop, since after that as you get older, premiums tend to climb. You get more health-based denials, and those tend to rise the longer your weight. So just keep that in mind that timing does matter if you do want to explore how that long-term care coverage

Starting point is 00:20:51 can fit into your overall insurance picture. Yeah, you mentioned Medicaid, which is the joint state federal program for low-income citizens. And it's actually the number one payer of long-term care expenses in America. But you have to dwindle down your assets to become eligible, and you may not have much say in the type of care you receive. Medicare, which is the health insurance program for folks 65 and older, provides very little in terms of long-term care coverage. So everyone really should have a plan for how these costs will be covered. If you go the self-insured route, you may want to set aside a percentage of your retirement portfolio, say maybe 5%, 10%, that you only touch if you have a big ticket unexpected expense, such as long-term care. And you might, if you're willing, include your home equity as part of that if you're open to either selling your home or getting a reverse mortgage as a way to pay for long-term care.

Starting point is 00:21:49 All right, so we've covered the major types of insurance. The next question is how to buy it. So Amanda, do you think people can do most of this on their own? Or are they better off getting help from a professional, whether it's a financial planner or maybe an insurance professional? I think that really depends on the policy. So if we're talking about auto, homeowners or renters, insurance, those things are fairly commoditized at this point. So comparison shopping, online or possibly through an independent agent works fine. And honestly, that's something you should be doing every couple of years anyways.

Starting point is 00:22:22 matter what, where I think a professional potentially could make more sense is on that more complex stuff. So when you're talking about life insurance amounts, how that structure, disability insurance, with that own occupation versus any occupation nuance. And then especially for long-term care and hybrid policies where those products themselves are genuinely complicated and that underwriting can vary a lot between the different carriers. And in this case, an independent agent is one who represents multiple insurers, that's what I would recommend here rather than someone who only sells one particular company's products, because an independent agent is, I think, a little bit more likely to give you a better deal across multiple products. And of course, a fee-only financial planner

Starting point is 00:23:06 can, of course, help you figure out how much coverage you actually need before you even talk to an insurance agent. So that's going to potentially keep you from being sold more policy than your situation actually calls for. Yeah, I agree with all that. You know, the more complicated the type of insurance you need, or maybe the more complicated of your situation, maybe you're looking for a long-term care insurance or life insurance, but you have some pre-existing health issues, the more you're going to benefit from working with a professional. And I'll add two that I've heard recently from some financial planners who have begun selling insurance, not because they were looking to make more money, but because they'd make

Starting point is 00:23:40 a recommendation to a client, but then the client wouldn't get around to actually implementing it, or the client went to an insurance agent and got talked into buying unnecessary or expensive coverage. So however you choose to buy your coverage, just make sure that you become very informed, make it a priority, and get it done. All righty, Amanda, any final words of wisdom about insurance? Yes, thank you. I would just say that insurance isn't about protecting you from every possible bad thing. It's about protecting you from the big catastrophic ones. So the stuff that would derail your financial life if it happened. So make sure that the big stuff, so we're talking about your income, your health, your home, your liability exposure is genuinely covered. Do a quick audit once a

Starting point is 00:24:25 year. So pull up your policies, check your limits against your current life, not the life you may have had five or ten years ago when you bought the policy, and ask whether you're paying for coverage that you may not need or that you may have outgrown. And as you mentioned at the top of the show, Robert, I know insurance in general is not a particularly riveting aspects of putting together financial plan. But spending just a little bit of time today to make sure you're adequately covered really could make the difference between just having a bad day and a bad decade over the course of your life. Very well said, Amanda. Thank you so much again for joining us. And thank you, dear Fool listeners, for spending part of your weekend with us. And appreciation,

Starting point is 00:25:03 as always, to Bart Shannon, the engineer for this episode. Keep in mind that people on the program may have interest in the investments they talk about and the Motley Fool may have formal recommendations for or against. So don't buy or sell investments based solely on what you hear. All personal finance content follows Motley Fool editorial standards and is not approved by advertisers. Advertisements are sponsored content and provided for informational purposes only. To see our full advertising disclosure, please check out our show notes. I'm Robert Brokamp. Fool on, everybody.

Motley Fool Money - Insurance-palooza! All You Need to Know to Protect Your Income and Wealth

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