There’s a question I ask every financial planning client when they start a financial planning relationship with us. “Would you like us to shop insurance for you to see if we can get better coverage for the same price or the same coverage for a better price?” It’s not a promise of results or a pitch for a sale, given that we’re fee-only planners. It’s an earnest question: Do you want your financial planning professional to go see what’s out there for you? We ask because it’s not uncommon that someone has “their parent’s insurance;” as in when they turned 16, their parents added them to their policy. When they got a bit older, their parents told them to talk to their agent and get their own separate policy. It’s not uncommon then that they talk to the agent, get a separate policy, and never think about it again until they either get into an accident and have an experience with the claims process, or they get a premium renewal bill so big that they feel stressed enough to take action about the costs. Yet, some of us are fortunate enough to never get into an accident or need to make a claim, and in turn, some of us make a decent enough income that we don’t really think about the cost of insurance. Regardless, this then often leaves many people as victims of steadily encroaching premium inflation and policy reductions. So today, we’re talking about the insurance market’s cycles and things to consider when looking at your own policy.
The Insurance Market Cycle
Like all industries and economic markets, insurance goes through a regular cycle of boom and bust. Insurance policies must be registered with and approved by the states they’re offered in, and so the decision to enter an insurance marketplace (e.g. a particular state) by an insurer is a business decision. What then follows shortly thereafter is some very competitive client acquisition. Because the insurer has no customers to start with, they also have no risk in that marketplace. This means that they can afford to be competitive in their pricing, and as a result, they can win a lot of business within a few years. In doing so, the insurer grows the pool of potential liabilities it’s covering, and this can expose it to big claim events, for example, the huge hail storm in 2018 that destroyed thousands of roofs in northern Colorado, or the Marshall fire in 2021 that destroyed 1,000 homes. When the insurer is faced with these enormous claims and substantial liability, it is forced to renew policies at much higher rates to account for the money it has paid out and may still have to pay out, as well as simply trying to keep itself in business! This of course then means that their premiums shoot up, and their formerly uncompetitive competitors whose business they’ve been “taking” for the past several years, suddenly become competitive again. Effectively then, we see an ongoing inhale of new business when premiums are low and an exhale of existing business when claims require premiums to go up. Yet, this is not a synchronized cycle across all insurers. Each insurance company has its own underwriters, actuaries, and risk management professionals. Some might decline to insure specific homes of a certain type, or property in the mountains where fire danger is high, or simply not to insure people who own trampolines, and so on. Because their entry point to the marketplace and their risk management strategies are different, they will be more or less competitive for different people at different times in different places. This introduces the element of why shopping your insurance becomes important: If you stay with the same insurer long enough, you are all but guaranteed to end up paying more for insurance than is necessary or to have coverages snuck out from under you at some point.
The Risk of Policy Reductions
Policy reductions are a manner in which insurers are able to reduce their risks and therefore their potential costs by altering the terms of the insurance they offer. They rarely do this in overt ways, for example, you don’t really see them reducing the face-value coverage of a homeowner’s policy. However, you will find that quite often, insurers will fail to update coverage levels on an existing policy to keep current with the potential cost of a rebuild, or that they change the definition of certain claims. For example, many people in the Marshall Fire likely thought they were well-insured; and they were, to a point. Their insurance likely was written with the assumption that they would be the sole “burned down house” rather than one in a full neighborhood or city. Simply put, the policy coverages didn’t entertain the possibility that everyone in the area would need their home rebuilt all at once, rather than just one home, and as a result, did not provide adequate coverage when the supply of labor was lower than the demand for rebuilds, and thus the costs shot up. In turn, we see changes to definitions of coverage. One of the most common ones I see in client policies is the definition of “actual cash value” or “ACV” rather than “replacement value,” particularly for home siding and roofs. After the huge hail storm in 2018, many insurers had to pay out tens of millions of dollars in roof replacement claims. To reduce their future liability, they quietly changed the definition of what was covered by their policies from replacement value, meaning that the whole roof would be replaced at the insurer’s cost, to ACV, meaning that they would only pay for as much as the roof was worth after years of depreciation. So those homeowners who were paying for ACV coverage on a twenty-year-old or thirty-year-old roof were none the wiser that their insurance company would pay little or nothing if their roof was damaged in the future.
Liability and Everything Else
Another misconception we see, particularly when it comes to auto policies, is that the primary purpose of auto insurance is to protect you and your car. Wrong, wrong, wrong! The legal requirements for auto coverage are for liability protection to protect other people from you! The only time coverages such as windshield, comprehensive, and collision are required is then to protect your lender if you have an auto loan! Yet, most of us think of our auto insurance as being about “fixing or replacing my car if something happens to it.” The result is that many people shopping for their own insurance will check the boxes to ensure their car is protected, but upon seeing the dials or sliders for liability coverage and other coverages, and how turning them down reduces the premium, simply turn everything all the way down that they can to save a buck. Yet this is insanely reckless! Imagine for a moment that you rear-end a yellow school bus. You don’t hit it that hard, and in fact, your car looks a lot worse than the school bus. But darned if that bus wasn’t full of 80 third graders, who all slid forward (no seatbelts, remember) and bumped their heads on the seat in front of them. Of course, being children, they immediately cry, wail, and the school bus driver out of an abundance of caution, calls 911 and asks that every single kid be taken to the local hospital to be checked out. So, here’s the question: How much insurance do you have to pay for the: a) Ambulances, b) ER visits, c) MRIs and scans, d) Any actual injuries sustained, e) Counseling and therapy the kid’s parents are going to say they now need, f) the possible lawsuits saying you need to pay for all of those things, and g) the actual damage to the school bus! Oh, and did we forget the damage to your car and the deductible you’ll have to pay? While driving itself is an everyday convenience, coverages such as your individual and aggregate liability limits, uninsured motorist coverage, and medical payments coverage, are all there to protect you when something as innocuous as a fender bender can turn into a much bigger issue. Let alone if you cause a much more serious accident!
The simple solution for the potential confluence of horrific and harmful what-ifs is to talk to your agent about increasing your coverages on your home and auto policies, but also to look at adding an umbrella policy, which is an enormous extra layer of liability coverage that sits behind your core home and auto policies to help in the event that liability costs get out of control. They’re typically a fraction of the cost of your actual home and auto policies, simply because it doesn’t kick in until after the coverages on those policies are exhausted.
What about loyalty?
Loyalty programs and discounts are great, but the fact of the matter is that they’re never going to be so substantial as to offset a carrier that is in the middle of a premium spike cycle. It doesn’t matter that you’ve been with a carrier for 20 years or never had an accident, or anything else. You will see premium increases that are required to help the carrier cover their risks, and if their risks get too big, your premiums are going up. Period. In turn, as it’s often observed by personal injury attorneys, having insurance is merely buying the right to sue your insurance company. Despite long loyalty and lifetimes of coverage, the world is full of stories of just about every insurance company “dropping” their customers over small events, changes, or even things that have nothing to do with the individual client. It’s hard not to take it personally when you get a letter from your insurance company saying they’re dropping you, but the simple fact is that they’re a business, and like any other business, they’ll only accept you as a customer if there’s only so much risk. So keep that in mind: It’s okay to like your agent or broker or to like your insurance company. It’s okay to take into account customer service ratings and reviews or to pay close attention to credit ratings and reports for insurers. But ultimately, it’s imperative that you understand that you and your insurance company have a business relationship. So don’t fret about shopping your insurance, asking your agent or broker tough questions about what your policy does and doesn’t cover, or about being considered a “tough customer” by an insurance company. At the end of the day, you deserve to be protected adequately in return for the premiums you pay. The insurance company is always going to look out for its own interests first, so you should do the same.