Financial Literacy Handbook

Types of Insurance

There are many different types of insurance products that can be purchased from an insurance company or a licensed insurance agent, either in person or online. The types you should have depend on your age and life circumstances. There are eight major types of insurance: health, disability, life, auto, homeowner’s, renter’s, long-term care, and umbrella.

Health Insurance

Without health insurance you could get stuck with a huge bill if you have any kind of medical need, from a broken bone to a chronic illness. Even a quick trip to the emergency room can cost thousands of dollars.

The Affordable Care Act (ACA), also known as Obamacare, is the nation’s health reform law that was enacted in 2010. Starting in 2014, it requires most U.S. citizens and legal residents to purchase and maintain health insurance for themselves and their dependents, or to pay a penalty. The ACA may provide a financial subsidy, which reduces the monthly cost of health insurance, depending on your income and family size.

Many employers offer group health insurance, or you can purchase an individual policy on your own. You can stay on your parents’ health policy until you’re 26 years old—unless you’re offered insurance at work.

Visit healthcare.gov to explore your health insurance options.

Disability Insurance

A disability is a physical or mental condition that limits your ability to perform various types of activities. If you’re unable to work due to a disability, accident, or long-term illness, disability insurance replaces a portion of your income while you recuperate. Unless you have plenty of savings in an emergency fund, a disability could leave you unable to pay for everyday living expenses, such as housing or groceries. Remember that health insurance only covers a portion of your medical bills—not your everyday living expenses.

Many employers offer some type of disability coverage for employees, or if you’re self-employed you can purchase an individual policy on your own. Professionals—like surgeons, athletes, or dancers—who want to protect their ability to do their job should always have disability coverage. Every disability policy is different, but there are two main types: short-term disability (STD) and long-term disability (LTD). A short-term policy usually pays you for a maximum of two years, while a long-term policy could provide benefits that last your entire life.

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Life Insurance

Life insurance provides a lump-sum payment, known as a death benefit, to one or more named beneficiaries when the insured person dies. It’s important to have life insurance when your death would cause a financial burden for those you leave behind—such as a spouse or child.

Many employers offer life insurance for employees, or you can purchase your own policy. There are two basic kinds of life insurance: term and permanent.

Term life insurance provides less expensive coverage for a set period of time, such as 10 or 20 years, and pays the policy’s death benefit amount to the beneficiary.
Permanent life insurance provides lifetime coverage that pays a death benefit and accumulates a cash value that you can withdraw later in life. This type of policy is much more expensive that a term life policy.

A good rule of thumb is to purchase life insurance with a benefit that’s 10 times your income. So if you make $50,000 a year, you might need coverage that would pay your beneficiary $500,000. However, factors such as your family size, debt, assets, and the lifetime income needs of a surviving partner, spouse, or child are critical considerations.

Auto Insurance

Most U.S. states require you to have some amount of insurance for vehicles such as cars, trucks, motorcycles, and recreational vehicles. The required insurance types and minimum amounts vary depending on the state in which you live.

Auto insurance is a package of coverages that may include the following:

Collision pays for damage to your vehicle caused by getting into an accident with another vehicle, even if you are at fault.
Comprehensive pays for damage to your vehicle due to something other than a collision, such as fire, hail, or theft.
Property damage liability pays for damage you cause to someone else’s property, such as their vehicle, a stop sign, or fence.
Bodily injury liability pays for injuries you cause to another person. It’s important to have enough liability because if you’re involved in a serious accident, you could be sued for a large sum of money.
Personal injury protection pays for medical expenses of the driver and passengers of the policyholder’s car regardless of who’s at fault, in certain states.
Uninsured and underinsured motorist coverage pays when you’re in an accident with an at-fault driver who has insufficient or no insurance to pay for your loss.

The cost of auto insurance varies depending on many factors, such as your age, driving record, credit history, vehicle, and the amount and type of coverage you choose. According to the most recent data, the Toyota Sienna is the least expensive car to insure, at $1,111 per year, and the Audi R8 Spyder Quattro Convertible is the most expensive, at $3,384 per year. So remember to factor in the cost of insurance when choosing a new ride.

Homeowner’s Insurance

When you have a home mortgage, the lender requires you to purchase and maintain insurance for the property. Basic homeowner’s insurance pays for damage to your property or personal belongings caused by a covered event, such as a natural disaster or theft. Homeowner’s insurance also includes liability coverage that protects you if someone gets hurt while on your property.

Renter’s Insurance

When you rent an apartment or home, your landlord’s insurance doesn’t cover your personal belongings or liability. Renter’s insurance pays for damage to your possessions (such as clothes, jewelry, electronics, furniture, artwork, household goods, and sporting equipment) if they’re damaged by a covered event, such as a natural disaster, wind storm, theft, or faulty plumbing. It can also reimburse your living expenses if you’re forced to move out temporarily while repairs are being made. And as with homeowner’s insurance, the liability protection keeps you safe if someone is injured on the property and involves you in a lawsuit.

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If you rent a home or apartment, you should never go without renter’s insurance. According to the National Association of Insurance Commissioners (NAIC), the national average cost of a renter’s policy in 2011 was only $187. So it’s a very inexpensive way to protect your finances from an unforeseen crisis!

Long-Term Care Insurance

If you have a long-term illness or disability that keeps you from taking care of yourself, long-term care (LTC) insurance pays a certain amount of day-to-day care that isn’t covered by other types of insurance. Remember that disability insurance only replaces a portion of your lost income if you’re unable to work due to a disability. And health insurance only pays for a portion of your medical bills.

Individuals who require long-term care may need help with activities of daily living, such as dressing, bathing, eating, and walking. Long-term care insurance generally covers care provided in your home by a visiting professional or in an assisted living facility.

Umbrella Insurance

As you build wealth, you may find that you need additional liability insurance protection to cover the total value of your assets. An umbrella policy gives you broad coverage from losses above the limits of your existing policies.

For instance, say you have $100,000 of auto insurance liability and a million dollar umbrella policy. If you were in a car accident that caused serious injuries to another driver that exceeded $100,000, your umbrella policy would give you protection up to one million dollars.