Insurance 101: Why It’s Essential, How It Works, and Myths You Should Stop Believing

Introduction to Insurance and Why You Actually Need It

Look I understand. Insurance is just like feeding money into a black hole every month, right? You’re paying for something in hopes you’ll never have to use it and when you do need it theres always some catch in the fine print that makes everything screwed up. But here’s the thing - insurance is one of those evil necessities that can quite literally save your financial life.

What Exactly Is Insurance Anyway

Insurance is essentially a net. You give a company (known as an insurer) a sum of money each month and they vow to bail you out financially if anything goes wrong. If it’s a car crash, a fire in the house, or a medical issue, insurance is there to catch you before you reach rock bottom in your finances.

Think of it this way: you’re crossing a tightrope over a canyon. Insurance is that net under you. Yeah, you’re paying to have it there, but if you do go over you’ll be very happy it is there.

The Real Cost of Not Having Insurance

This is where it gets serious. I knew a guy named Mark who believed he was bulletproof. Young and healthy, good driver - he figured what’s the point of paying for good car insurance when the state only demands basic coverage? Then one rainy Tuesday he rear-ended some luxury SUV. The cost? More than $45,000. His basic coverage paid out maybe $25,000. Guess who was left with the rest and had to negotiate a payment plan that took three years?

Medical insurance is even more important. A hospital stay can run between $10,000 to $50,000 or even more. Without health insurance a serious disease or an injury can actually ruin you financially. In fact, medical bills are one of America’s main causes of bankruptcy even today.

Types of Insurance You Should Know About

There are so many different kinds of insurance that it will make your head spin. But let’s narrow it down to the biggies:

Health Insurance pays for doctor visits, hospitalizations, surgeries and prescription drugs. This is most likely the most important kind of insurance you can have because medical bills are completely out of control.

Auto Insurance shields you from financial loss if you’re involved in a car accident. It can pay for damage to your car, other cars, medical expenses and lawyers’ fees. You must have basic auto insurance in most states.

Homeowners Insurance (or renter’s insurance if you rent) insures your home and possessions against damage or burglary. It also pays if someone is hurt on your property.

Life Insurance sends your loved ones money when you pass away. Yeah, it sounds creepy but if you have someone that counts on your income this is essential.

Disability Insurance keeps some of your income coming in if you get sick or hurt and can’t work. Few people consider this one but statistically speaking, you’re more likely to get disabled than you are to die in your working years.

How Insurance Really Works Behind the Scenes

Insurance companies are not charities (gasp I know). They are businesses that profit by taking in premiums from many and paying out claims to the few who require it. Its essentially a big pool of money which everyone is throwing some money into.

The insurance company employs actuaries - essentially über intelligent math whizzes - who analyze risk and probability. They determine how probable you are to make a claim based on loads of factors. How old you are where you live, your medical history, your driving record - all of it goes into the equation.

When you purchase insurance you’re really wagering that something negative will occur while the insurance company is wagering it won’t. The company determines your premium (how much you pay) based on how risky you are to insure. The more risky, the greater the premiums.

Understanding Premiums, Deductibles and All That Confusing Stuff

Okay, so let’s discuss the money aspect of things because this is where people get confused.

Your premium is the amount you pay on a regular basis (monthly) just to carry the insurance. It is like a membership fee.

The deductible is the amount that you must pay yourself before insurance starts paying out. For instance if you have a $1,000 deductible on your auto insurance and you get into an accident causing $3,000 in damage you pay the first $1,000 and insurance pays the other $2,000.

Copays (or copayments) are a set fee you pay for certain services. Such as perhaps $30 each time you see your doctor.

Coinsurance is when you both pay half. For example you may pay 20% on a medical bill and insurance pays 80%.

Out-of-pocket maximum is the highest you will pay all year. After you meet that amount insurance pays 100% on everything else.

Here’s a trick: lower-premium plans typically have larger deductibles and vice versa. You must consider your case. If you’re in good health and don’t visit your doctor often a high-deductible plan could be cheaper. However, if you have continuous medical requirements a low-deductible plan may be better despite paying a higher monthly premium.

Common Insurance Myths That Are Totally Wrong

Myth 1: “I’m young and healthy so I don’t need health insurance.” False! Accidents happen to the best of us and one trip to the emergency room can be thousands. Myth 2: “Red cars cost more to insure.” Really car insurance rates are determined by make, model year and your driving record - not color. Myth 3: “My belongings are under my landlords insurance.” No way! Your landlord’s policy insures the building but your own belongings require renters insurance. Myth 4: “Employer life insurance is sufficient.” Possibly, but likely not. Most employer plans only provide coverage equal to one or two years’ salary that may not be adequate for your family’s protection.

Making Insurance Work for Your Budget

I understand insurance is costly. Between home and auto, health and life, you could be spending $500-$1,000 per month or more. But there are steps you can take to make it more affordable without giving up coverage.

First, shop around. Insurance premiums can differ dramatically between insurers for the very same coverage. Seek at least three quotes from different insurers before deciding.

Second inquire about discounts. Most insurers provide discounts for insuring several policies, maintaining a good driving history, putting in security systems and so on. These can translate to substantial savings.

Third think of increasing your deductibles. If you have an emergency fund that can pay for a higher deductible you can decrease your premiums considerably.

Lastly, check your coverage each year. Your needs have changed as your life has changed. That policy you purchased five years ago may no longer be the best choice.

The bottom line is this: insurance may be an apparent waste of money until the day you are in a situation to use it. And on that day you will be extremely thankful you do have it.