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The world of finance and investments is notorious for its extensive use of jargon. With a goal to enhance financial literacy and make the world of money more transparent, we have our “monthly jargon” articles that focus on debunking financial terms that are often used sans explanation. This month, we address an insurance term that takes precedence when shopping around for the right policy and coverage: insurance deductible. The insurance market can be confusing and complex – but that doesn’t have to be the case. When looking around for an insurance policy, you have most likely come across the term “insurance deductible,” which, put simply, represents the out-of-pocket cost a policy owner must pay before the insurance coverage kicks in. Insurance deductibles are found with health, property, and casualty insurance products like health-, homeowners’ and auto insurance policies. Insurance deductibles are the specific amounts policy owners need to spend annually or per occurrence to unlock their insurance policies that will then cover some or all of the expenses at hand. Once you meet your deductible, you will submit an insurance claim – a request for coverage to kick in – and upon the insurance company’s validation and approval of your request, your coverage will step up to the plate, and your insurance company will pay the due costs of your incident.
Why do insurance deductibles exist?
Insurance companies have deductibles to ensure policy holders are held accountable and share some of the costs of the insurance claim, the official request a policy holder submits to an insurance company for coverage or compensation for a covered loss. Insurance companies also implement deductibles to lessen moral hazards; in other words, insured individuals may feel more of a need to keep any risky behavior in check, knowing that they will be financially responsible for some of the cost if anything occurs. That being said, deductibles also function to protect the policy owner. For example, as a driver, you may be more cautious and aware on the roads knowing that if you were to get into an accident, you would be liable for any costs up to the full amount of your deductible before your insurance company steps in with its coverage.
Insurance deductibles also provide a greater sense of financial stability for the insurer, as these deductibles provide a financial cushion between minimal losses and catastrophic losses. Without deductibles, the entire cost of every claim would fall on the insurance company. Such a financial burden would force insurance companies to increase the costs of policies, which may deter some individuals from obtaining adequate coverage, putting them at great financial risk if a costly incident were to occur. Therefore, in turn, insurance deductibles also exist to keep coverage costs at bay, making insurance more affordable for people seeking coverage.
Health Insurance Deductibles
Most often, we hear the term “insurance deductible” associated with the health insurance market. When it comes to a health insurance policy, deductibles only represent a portion of the expenses an individual faces in a given healthcare occurrence. The deductible for your health insurance policy is the amount you must spend annually on your covered healthcare expenses for your insurance coverage to kick in and start covering some of your costs. You should also be aware of copayments and coinsurance when it comes to your health insurance coverage. Copays comprise set amounts you must pay for specific healthcare expenditures, and a copay is all you have to pay for that specific covered appointment or service, meaning you do not need to worry about hitting your deductible before your insurance kicks in. Coinsurance means that even when you hit your deductible, you may still be responsible for a portion of your healthcare costs, but your health insurance plan will still cover a significant portion as well. You pay coinsurance until you meet the out-of-pocket annual maximum for your specific policy, and then once you hit that maximum, your healthcare plan covers 100% of your covered healthcare expenditures.
Overall, insurance deductibles exist so that both the policy holder and the insurance company share some of the responsibility for the costs at hand. A good rule of thumb to follow when shopping around for various insurance policies is that no matter what type of policy you’re looking for – whether it be an auto or a home- or health- insurance plan – policies with lower deductibles are more costly than high-deductible policies. This is because the insurance coverage kicks in at a lower threshold in a lower-deductible plan than in a higher-deductible plan, meaning the insurance company is liable for significantly more of the incident cost, which the company compensates for via a more expensive premium for the coverage.
That being said, it’s important to ensure the policy you select appropriately matches your needs and aligns with your financial life and budget. Never rush to decisions when it comes to insurance – always do your research first to make sure the policy you pick is the right one for you.