Hi, my name is Josh Bechtold. I’m with the CFA Society of Pittsburgh and today I’m going to be talking about the basics of insurance. So first of all, what is insurance? This may sound like a simple question, but it’s important nonetheless. Insurance protects us from events that have a low probability of occurring, but those events can have large financial impacts If they do.
They are a necessary evil when you don’t need them, but are critically important when you do. Every person needs certain types of insurance, but no one needs every single kind of insurance that is offered to us. So here are some of the fundamentals. The following are basic terms that you would find in your standard or typical insurance policy, no matter what kind it is. So first of all, the policyholder, that is you, the person who buys the insurance.
The insurance policy is a contract that defines your insurance listing what is specifically covered.
For example, you can buy an insurance policy with $5,000 for roof repairs, so this means that the company agrees to reimburse you for up to $5,000 for damage to your roof. Now, an insurance claim is a formal request by a policyholder, or you, to an insurance company for that reimbursement in the event of a loss or policy event. So here is what you pay. First of all, is the premium.
This is the amount you pay for the insurance policy annually. Next is the copay. This is a fixed dollar amounts that you pay before receiving the service offered by the insurance policy. So for example, a medical copay of $40 per doctor means that you pay $40 for each visit to the doctor regardless of what type of medical insurance coverage you have. Next is the deductible.
This is the amount of money you are responsible for paying before the insurance kicks in. So for example, the previous roof insurance policy of $5,000 has a deductible of 500. This means that you’ll pay $500 before the policy pays the rest. Now let me go into different types of insurance. I would like to start off with health insurance.
Now the probability of needing it could be low, but this is a must have. This insures against higher risk, high cost events with catastrophic long term consequences, and it’s also typically covered by employers and can be important part of your compensations. Now I’m going to be talking about three different types of health insurance, PPO, HMO and POS. PPO is a preferred provider organization. This is based on geographical area and there is no need to select a primary care physician or location.
Now you can go out-of-state and you can go to these out-of-state providers, but normally you would pay a higher premium. Next we have the health maintenance organization, or an HMO, and this is where you select a primary care physician and the center of service for all health care needs is from that primary care physician. Now you can see a provider outside of network costs, but the out-of-pocket costs are increasing. Lastly, we have a POS, or point of service. This is a blend of HMO and PPO where you select a primary care physician; the cost of coverage is the same as a PPO but you have more coverage for preferred providers.
Next I would like to talk about homeowners insurance.
This is required by a person after the purchase of a house. This can cover not only your home but the personal property within I.G., appliances, electronics, laptops or anything like that.
Now water damage and movements in the earth are common exclusions that usually aren’t covered with your homeowners’ insurance. So the most common types of insurance are HO2s and HO3s. HO2s provide broad coverage on dwelling and other structures on your property. These are classified as named perils, where only perils listed in the insurance policy are what’s covered. Next, we have HO3s which covers your home, personal property, and any liability.
These are classified as closed perils, where they cover everything except what is listed in the policy. Now HO2s cost less than HO3s. Now we’re going to talk about renter’s insurance; so this reimburses you for the loss of personal property owned and kept in the room, apartment, or house that you are renting out. You know this covers clothes, computers, audio, other equipments, furnishings and any valuables that you have in the apartment, and it’s mainly purchased by renters who are renting out the facility for over a year. So if you’re just renting something out for a month or two, you usually wouldn’t get this.
Next, we’re going to talk about auto insurance.
Now this is required by all states to have. Even if you have the lowest form of auto insurance, it is still required. These protect you by reimbursing anyone or anything that might be affected by accidents that you would be responsible for. Now many young adults start on their parent’s auto policy and pay their share of their premiums.
Now the insurance policy is package protection. This means that it covers bodily injury as well as any property damage. So if you accidentally run off on the side of the road and you hit a house or any type of building on the property, and let’s say that you hurt somebody, the insurance covers the medical expenses for the person that you hurt, as well as any property damage that you had on their property. This can include damage caused from a collision or caused by things other than collision.
For example, flood, fire, wind, hail or anything like that.
Now we’re going to talk about life insurance. Now this generally isn’t necessary until a family member is dependent on your income. Family members, or dependents, receive the life insurance proceeds in cash after the insured passes away. Now, this usually isn’t needed, unless you believe that your spouse or dependent can’t live without your income. A lot of the time you’re going to see that people in their 20s and even their 30s don’t need life insurance; whereas as you start moving on, you may have a wife or husband or kids.
You’ve all want to purchase life insurance. Then we’re going to talk about 2 forms of life insurance, either term insurance or permanent insurance.
Now term insurance- this is a low cost but has a big benefit. This is set for a fixed number of years, so you’re able to protect dependents against that financial hardship. You can set it for anywhere from 10 to 30 years for the insurance policy.
Now the insurance renews annually until you no longer feel that it is necessary, but this runs the risk of if you pass away after the insurance expires, your family or dependents will not get any of the proceeds. Now alternatively, permanent insurance. This is a continuous form of that life insurance. It is more expensive than term, but it is effective for the entirety of the insured lifetime. This prevents the risk of passing away after the insurance expires because the insurance will never expire.
Now we’re going to talk about disability insurance.
Now disability insurance is one of those taboo subjects where nobody wants to think about the possibility of being disabled, whether in the short term or the long term. Now disability insurance offers financial protection against certain physical or mental disabilities. There is no required deductible or minimum spending threshold. You must be determined medically unable to work, and you usually receive 40 to 70% of your salary, depending on the insurance.
Now let’s talk about long term versus short term insurance. Long term, these cover chronic disabilities that can last for years, decades, or even your lifetime. Now you may be able to receive Social Security benefits from these specific long term disabilities and most claims are not related to workplace injury. Now, short term disability generally covers only the first few months of being unable to work, usually 60 to 90 days, and can also provide 6 to 8 weeks of compensation after childbirth. Now these are more associated with workplace injury than long term disabilities.
Now, as well as, short term or long term disability insurance, there’s also any occupation or own occupation disability insurance. Any occupation is the strictest form of disability insurance, so you are declared disabled only if you are unable to perform any duties pertaining to any occupation. This is the most expensive and the most covered, so if you have a job where you’re doing a lot of different things or going a lot of different places, any occupation would be preferred, versus own occupation, which is the most flexible form for disability insurance. So you’re disabled only if you’re unable to engage in the principal duties of your current job. This is less expensive, but it also covers less.
Lastly, I want to talk about emergency reserve funds. Now these technically aren’t insurance, but it is a different type of insurance. These are meant for contingencies or unexpected adverse events that aren’t covered by insurance.
One of the most popular forms of that is losing your job unexpectedly. An emergency reserve fund provides the ability to pursue attractive investment opportunities, and it also prevents the loss of money if there are serious economic downturns expected in the near future.
You can also avoid tax penalties from having to pull money out of a retirement account, like a 401K or an IRA, and pull it from the emergency reserve instead, so that way you don’t have that 10% penalty tax. So how much should you have in the emergency reserve fund? Now, at minimum, the account should have three months of your living expenses. So for example, let’s say that your living expenses are around $2,500 a month.
Then you would aim for $7,500 in the accounts.
Now if you have dependents, or if you are starting a family, you would want to increase this to six months of your living expenses, and now this also increases if you have a job with a high turnover or a high injury rate. Like I said, this is not standard, this is not necessary. You can change it however you would like. You can have less than three months, you could have more than six months. You could have a year of living expenses, and it all definitely depends on where you’re at in life and what type of responsibilities or financial responsibilities that you have.
So you want to increase the account balance according to your financial needs, like I just said, and when used you want to focus on funding the account back up to the original balance as soon as possible. So finally, I want to stress the importance of insurance.
First of all, it grants the insured a meace of Mind and feeling of safety. Now, this is rare in the real world. Whenever you have financial stability and also stability, overall, insurance is definitely an important aspect of having that stability and safety net for you.
This also ensures family and business ability in times of need, in times of, you, know financial crises or economic downturns, and especially for businesses as well. Businesses do need insurance. They can have similar forms of insurance than personal insurance, but it is still crucial for both. It’s usually required by lenders as well whenever searching for funding. This also applies to getting a personal loan.
If you are going by yourself or if you are a business searching for a loan, a lot of bankers and lenders will require some form of insurance. And finally, it spurs economic growth through the opportunities that the insurance enables. So that concludes the presentation for insurance planning.
If you have any questions, please feel free to reach out to cfasociety.org/pittsburgh.