Your Homeowner’s Insurance Deductible Should Be Catastrophically High

housemoneyThe NYT Times Haggler just helped a reader who made two small claims on his homeowner’s insurance for (1) a fallen ceiling fan and (2) a stolen bike. Not only did State Farm deny both claims, but they subsequently refused to renew his insurance the next year! This is a unique circumstance, and I’ve heard of co-workers with similar problems. But of course the power of daylight again helped this lucky reader:

After the Haggler’s interactions with State Farm, Mr. Joseph sent an email to the Haggler with the subject line “It worked!” A representative at the company had contacted him and, in conversation, was much more forthcoming than Ms. Risinger. Mr. Joseph learned that in New York City, the average for homeowners is one claim every 38 years.

“Two in two years,” Mr. Joseph recalled this rep telling him, “that makes us concerned.” But after digging deeper into Mr. Joseph’s claims, the company decided that it wanted to keep him as a customer.

You should never make a claim for such small things like a stolen bike or broken appliance (especially if apparently it’s not even covered). Every claim you make will be recorded in an insurance database forever. As a result, if you’re not going to make a $500 or $1,000 claim, then why would you set your deductible to $250 or $500? Set it to $2,500 or higher if you can swing it. I’ve been inching ours up over the years, and I believe it is now $10,000 and even higher for natural disaster insurance. Enjoy the lower premiums, but remember to stock up your emergency fund in return. I used to have a special rider for my wife’s engagement ring, but cancelled that as soon as the value become “non-catastrophic” for our finances.

And we’ve all learned a valuable lesson: Homeowner’s insurance is for disasters. Which means that if you’re lucky, you’ll spend money on it for years and years and never get a dime back.

Exactly. Insurance is not an investment, a maintenance plan, or a replacement for properly securing your property. Insurance is there to protect you from something truly catastrophic happening, like your entire house burning down and them putting you up in a residential hotel for months while they rebuild it (which happened to our friends).

Bottom line: If you have homeowner’s insurance, you should set your deductible as high as you can tolerate. It should be a painful number. Take your premium savings and put it towards your cash reserves.

Comments

  1. I wonder if this applies to renters insurance as well?

    Currently I have a renter policy (with the same company as my auto – to prevent finger pointing) to protect my expensive race bicycles in case of theft or collision while in transport. If I’m carrying 2-4 bikes with me I can have anywhere from 12-24k of bicycles on the back of my truck… In this case, the premiums and deductibles are a lot lower than using a HO policy to cover them. (as advised by my agent)

    • Renter’s insurance is usually ridiculously cheap. I had a standard policy for $10/month. I’m sure you could get a higher deductible, but why bother with prices that low.

  2. I certainly agree with you on this point.

    however, i’d be interested in hearing your take on whether this same reasoning applies to health insurance (traditional plans vs. high deductible plans), which is more of a hybrid between a maintenance plan and catastrophic insurance. Do you think, especially with your young ones, that health insurance works the same way?

    • This is a problematic analogy, because a chronic illness may reliably max out your deductible year after year. Many people have out of pocket maximums in the 10-15k range, making a nasty gift every January

    • high deductible plans are an entirely different animal. They allow you to pay for medical expenses (either before or after meeting your deductible) with pre-tax money. You can also use them as a de-facto IRA by putting money away pre-tax and then claiming it without penalty at 62.

    • ttfitz says:

      Josh – I would say for almost everyone, yes, with health insurance you should pick the highest deductible you can manage.

      Last year when my wife’s company had open enrollment, I put together a spreadsheet with the various options, and various scenarios for medical costs. At the low-deductible/high cost plan, we had a $500 individual deductible plan with premiums of $21,775/yr for family coverage. At the high-deductible/low-cost end, we had a $6350 individual deductible plan with premiums of $14,542/yr. In almost every scenario I tested, the high deductible plan was either much cheaper overall, or comparable.

      It’s easy to see why – the low deductible plan cost $7233/yr more in premiums alone. That means as long as you had less than $7233 in medical costs, you came out ahead. And since the high-deductible plan was an HSA, you could put almost all of the premium savings in your HSA account, and pay for costs out of there (if you wanted – it’s better if you have the money to leave it in the HSA, since you can currently get medical costs out at any time, and keep it there as a form of retirement savings). Anything you don’t use is still there for future years. According to my spreadsheet, even if we had one bad year out of 5 medically (a huge hospitalization), we still came out almost $20,000 ahead over 5 years.

      I want health insurance for only 2 things – coverage for a large, unforeseen expense, and the in-network negotiated rate for everything else.

  3. I completely agree that you shouldn’t use Homeowners Insurance for smaller claims (under a few thousand). However, when calculating which deductible to use, you should still do the math.

    I think that I “save” $5/year by going from a $1K to a $2K deductible last time I priced insurance. I think it’s more likely that I’ll have another claim sometime in my life, so I just picked the $1K deductible.

    • This was the point I was going to make – I completely support the reasoning that Jonathan uses, that insurance should only cover losses you can’t cover yourself, but sometimes the pricing is such that moving to a higher deductible just doesn’t save enough.

      • 80% of the homeowners premium is for damage to the house. That’s why renter’s insurance is so cheap. You only pay the other 20% that covers personal property and liability.

  4. Thanks for the insight, moneyblog. More and more I feel that insurance companies are deciding whether you are a customer they want to keep based on your “luck”. The guy in the story filed 2 insignificant claims and yet they didn’t renew his insurance! Seems to me they said “This family is unlucky. We don’t want them anymore.” Instead of saying, “This family submitted 2 low cost claims which we denied. We didn’t have to pay any big claims for them, so we’ll keep them.” Mind boggling.

  5. Don’t recall the price difference from $1000 to $5000 being that high. We’ve got a house in SoCal still through USAA we pay $1000 a year on the premium. So checked and it drops to $700 going to $5000. That’s over 13 years for it to pay off; we’ve had one flood claim in the last 5 years. Will another happen in 13 years? Hmmm…

    BTW, $10,000 it barely moves it low – like another $50.

  6. This is the way insurance should work. If you are going to claim every little problem, why should the rest of us pay for your troubles with higher insurance rates. If you milk the system, sometimes the system should tell you no.

    I just had a sewer backup from localized flooding last summer that effectively took out my furnace and hot water heater. Would I have been able to pay for replacement of those myself? Maybe, but having insurance proved to be a God-send and all I had to pay was my high deductible, which I was more than happy to. Now I don’t care to do that every summer, but the peace of mind after the fact was priceless.

    • It’s a cold water heater (or just water heater). No point in heating water that’s already hot. 🙂

  7. Some good comments here.

    I just bought a home and recall there was literally no difference in premiums from a low deductible to a higher deductible.

  8. I guess my problem with this line of thinking is, why even buy insurance if I’m never going to use it? I see questions all the time on another finance forum about whether people should use their auto insurance to make claims after accidents. If you never make a claim even when it is justifiable, why have insurance at all. Just take the money you would spend on premiums, save it up and use that for insurance.

    • @DaveD As the article says, insurance is generally meant to be for disastrous situations for which you don’t have the reserves to pay (and wouldn’t even if you saved for it). Insurance is about the community sharing the risk, and keeps you from going bankrupt if your house burns down.

      Car insurance is similar. If you can save up the value of the car, then skipping collision insurance is viable, but you probably can’t cover yourself for potentially millions in liability claims and legal fees.

      • Pretty sure collision insurance covers damage to the OTHER cars as well. High deductible might be advisable if you have good cash reserves but skipping collision altogether is advisable only if you know without a doubt you will never, ever be at fault (i.e. found by a court to be at fault) in an accident.

        • I think he meant comprehensive, not collision. So your insurer won’t pay for your car if you get in accident.

        • Auto insurance has three (main) components – liability, collision, and comprehensive. Liability pays for other cars damage if you are at fault, collision pays for your car’s damage, and comprehensive pays for non-collision type losses to your car (items stolen from inside, maybe broken glass?). Generally the only type that you are required to carry is liability.

  9. I have a 2% deductible for my home and a $500 deductible per car. I also have a high $6k deductible health plan. Managed to hit them all in last week and a half. Ouch!

    Thing about hail is it can take out cars AND roofs…. Double deductible whammy!

    Just goes to show the importance of an emergency fund.

  10. Why bother having insurance if you get punished for using it? I don’t call making claims “milking the system”. I’ve paid into the system, and now I should get paid for my claims.

  11. Insurance is originally meant to be a mechanism for providing stability to our society. It’s a social net of protection against catastrophe. Ideally, we all pay a little bit into the pool so that the most needy are protected, in case of a disaster.

    However, insurance companies’ interests are aligned with the majority of the population. If they notice somebody making ripples in the social net, they will raise the customer’s premium or try to non-renew them. If everybody took out what they put into the pool, then there would be no actual money to pay when an actual disaster occurs.

    Think about earthquake insurance from the California Earthquake Authority, which is a not-for-profit organization. It is viable protection because people have been paying into it for a long time without filing little claims to try and get their money back.

  12. I agree with @Jeff…….HSA’s are a good idea but if you have a chronic illness or a lot of medical expenses each year….not practical……where I work…. I asked the man making the presentation if this new high deductible plan with an HSA was something the workers at our hospital could afford …he said no probably not and he said he could not afford to get it for him and his wife…..really only practical for high wager earners in my view

  13. Great advice. Reporting honestly and not trying to milk the system will work out better for you in the long run when you actually need real help. Thanks for sharing.

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