I was thinking about insurance this morning. I know. I’ve got problems, but I was still thinking about why you have to buy insurance. In the past, when I have been talking about life insurance, I’ve said that people buy insurance because they love somebody, or they owe somebody money. I think that concept applies to other types of insurance as well.
When you buy a house, most people take out a mortgage to pay for the house. You are borrowing money from a lending institution and using your house as collateral. Because you owe somebody money, the lending institution requires you to carry homeowners’ insurance while you have a mortgage.
The same thing is true when you buy a car. If you have an auto loan, the lending institution will require you to carry full coverage. This covers things like collision, uninsured motorist, gap coverage and liability insurance. When you are buying auto insurance, most people think they are buying insurance to protect themselves, but really you are buying insurance to protect the lender. Once your car is paid off, in the state of New Mexico, a person is only required to carry the state minimums for liability insurance. Can you see why? You don’t owe anybody any money, so they don’t really care if you’re covered or not.
May is Disability Insurance Awareness Month
Let’s go back to my premise that you buy insurance because you love somebody, or you owe somebody money. When it comes to disability insurance, this might be the most selfish form of insurance. It’s also one of the most important!
For most of my clients, everything in their lives runs on their ability to earn an income. I have clients who are retired and a few who are really rich who don’t depend on their ability to go to work to pay for things, but most of the people I know between the ages of 25-60 or so need to earn a living so they can pay for things like cars, houses, vacations, education, food, gas, utilities, clothes, etc. etc.
I know a lot of people really like what they do for a living. They went to college, sometimes graduate school and have spent a lot of time working in their professions. Nonetheless, most of them are working because they need to earn a living. Have you ever noticed that a lot of trust fund babies don’t have jobs?
Plus, if you’re like me, a lot of the money that I earn goes to pay for other people and the things those people want and need. Cars, apartments, education, food, clothes, vacations, etc. I really enjoy what I do for a living, but I still work because I owe people money and I love my wife and kids.
I have seen statistics that say 1 in 23 people will die prior to age 65 and 1 in 8 people will become disabled prior to age 65. That means you have a 95.65% chance of living past age 65 and an 87.5% chance of not becoming disabled. Those are pretty good odds, right? I saw another statistic that said 1 in 20 homes file a homeowner’s insurance claim in a year. Again, there’s a 90% chance you won’t file a claim. Finally, car insurance estimates show the average driver will get into an accident once every 17.9 years.
Even with those types of odds, the lending institutions want their collateral protected with homeowners’ insurance and auto insurance. They don’t hope you don’t get into an accident or hope nothing bad happens to your house (their collateral). They get laws passed and have rules that state you must have insurance coverage to borrow money from them, even if the odds of there being an insurable event are quite low. Doesn’t it make sense for us to think along those same lines?
The Premium Isn’t the Problem
Here’s the thing about insurance. The premium isn’t the problem. The problem is the problem. The odds are in your favor that something bad will not happen to you. You have a 7 out of 8 chance that you will not become disabled prior to age 65. You have a 22 out of 23 chance that you will not die prior to age 65. If you had a 95% chance that your airplane would land safely after a trip, would you take the plane? It’s only 5 times out of 100 flights that there would be a crash.
Here is a graph that shows a person who makes $100,000 per year and gets a 3% raise each year. This shows what happens if this person were to have a 2-year loss of income from age 52 to age 54. As you can see, the total loss of income would be $440,687.00.
An individual disability insurance policy for a 40 year male would probably cost approximately $2000.00 per year. This would provide $5000.00 per month of tax free income if he were to become disabled. While that will not completely replace the income in the event of a disability, it’s a lot more than 0! If this person were to pay their premium from the age of 40 until age 67, they would pay $54,000. That’s a lot of money.
If they became disabled for even 2 years and they don’t have their most valuable asset insured, this will cost them not only the lost income of over $440,000, they will probably lose their house as well. 48% of FHA home foreclosures are due to a disability. They don’t kick you out because you’re disabled, they kick you out because you didn’t make your payment on the money they lent you.
Love and Money
Basically, insurance is about love and money. You buy insurance because you love somebody, or you owe somebody money. It’s also a math problem. It’s called actuarial science. Actuarial science is the study of the quantification of risk using math, probability, and statistics. The numbers don’t lie. If you would like to talk about how this relates to you and your financial planning, you can reach out to me HERE. As always, thanks for reading. KB