#013 | The 3 Types of Insurance Everyone Needs
A crash course on life, disability, and health insurance
Hey friends,
No matter how great of a saver or investor you are, a lack of insurance leaves you vulnerable to financial ruin.
In severe cases, being uninsured may even cause bankruptcy.
Everybody wants to talk about investing, and I get it. It’s a much more fun topic to discuss.
It appeals to that part of us that wants to find the next Apple, Microsoft, Bitcoin, or other play that will produce a 1000x return and retire us early.
It’s like playing the lottery. After we buy our ticket, we spend the next few days dreaming of a life where we're not tied to the daily grind, we visualize the cars and houses we would buy, and we start thinking of our next vacation destination.
Before you begin investing though, you must ensure that you’re building on a rock-solid financial foundation. This can be accomplished by checking these 3 boxes:
Purchase an adequate amount of insurance
Pay off all debts (except your mortgage), and
Build an emergency fund with 3-12 months of expenses
Today’s newsletter will focus on insurance, the first piece of this equation.
While I acknowledge that it’s not the sexiest topic to discuss, it’s an essential part of any financial plan.
Because shit happens, and the severity and cost of the shit we’ll have to deal with is a risk that must be mitigated.
So let’s dive in and discuss what insurance is, as well as the types of coverage that you should have.
What is insurance?
Insurance is a financial product that is used to manage risk.
It provides a safety net against unexpected events by transferring the risk of financial loss to an insurance company.
At a very high level, here is how insurance works:
You buy a policy from an insurance company, and the policy will protect you from a defined risk. The policy will outline the terms of the insurance policy, such as its coverage, limits, and deductibles.
In exchange for coverage, you make regular payments called premiums to the insurance company, usually monthly or annually.
If a covered event occurs, such as death, medical treatment, or disability, the policyholder files a claim with the insurance company.
The claim is then reviewed by the insurance company, and if approved, the benefits will be paid out to the policyholder and/or service provider.
Now, let’s discuss the 3 types of insurance everybody should have.
1. Life Insurance
If you were to die and your income disappeared, how would your family’s financial situation be impacted?
This is the problem that life insurance solves.
Nobody likes to think about death, but part of your financial plan is having a plan in place for the day that you will inevitably die.
Nobody is certain when they will die, and this uncertainty can’t be eliminated.
But life insurance provides some certainty about the availability of future income and savings for your beneficiaries.
This allows your loved ones to maintain their existing lifestyle, cover the cost of your funeral expenses, pay off mortgages, pay for children’s education, and more.
Life insurance isn’t about you - it’s about the people who rely on you financially, such as your spouse, children, and other dependents.
There are two primary types of life insurance:
Term Life Insurance: provides coverage for a specific period, such as 10, 20, or 30 years. Premiums are generally lower than permanent life insurance, especially for younger and healthier individuals. If the insured person dies during the term of the policy, the beneficiaries receive the death benefit. However, if the policyholder outlives the term, there is no payout. It’s often chosen for its affordability and simplicity, providing a straightforward death benefit during the specified term.
Permanent Life Insurance: provides coverage for your entire life as long as premiums are paid. Premiums are generally higher than term life insurance, but they remain level throughout the policyholder's life. One of the key features of permanent life insurance is the accumulation of cash value over time. This cash value can be accessed through policy loans or withdrawals. Permanent life insurance also pays a death benefit to beneficiaries upon the insured's death. There are different types of permanent life insurance, such as whole life, universal life, and variable life, each with varying features and investment components.
2. Disability Insurance
Disability insurance provides income replacement for a policyholder who becomes unable to work due to a disability or illness.
The benefits you receive may or may not be taxable, but it depends on how the premiums are paid. This is important to consider since it affects your cash flow.
There are 2 primary types of disability insurance:
Short-term disability (STD): covers disabilities for a short period, such as 3 to 6 months. The benefit amount provides a percentage of the insured person's pre-disability income, usually between 60% and 80%. It is commonly used for temporary disabilities, such as recovering from surgery or illness.
Long-term disability (LTD): provides coverage for an extended period of time, potentially until retirement age if the disability is permanent. It offers a percentage of the insured person's pre-disability income, typically between 50% and 70%. Other common types of LTD include own occupation and any occupation disability insurance.
3. Health Insurance
If you or a dependent suddenly had an expensive medical bill, where would you find the income to pay for it?
Large and unexpected health expenses can delay our financial goals, and potentially make them no longer achievable.
Health insurance allows you to split the cost of healthcare and medical costs with insurance companies.
Choosing the best health insurance plan, however, is a complex process due to the plethora of options available. There are 4 primary types of health insurance:
Health Maintenance Organization (HMO): Requires primary care physician referrals for specialist visits and typically has lower out-of-pocket costs but limited provider choices
Preferred Provider Organization (PPO): Offers more flexibility in choosing healthcare providers, both in and out of network, but may have higher premiums and costs
Exclusive Prover Organization (EPO): Combines features of HMO and PPO plans, and doesn’t require referral from your primary care provider. Premiums are typically somewhere between the cost of HMOs and PPOs
Point of Service (POS): Also combines features of HMO and PPO plans. It allows out-of-network coverage, but it requires referrals from a primary care provider
Additionally, there is another plan sub-type called a High-Deductible Health Plan (HDHP), which offers lower premiums and higher deductibles. These can be paired with a Health Savings Account (HSA) for tax-advantaged savings.
Conclusion
If you become sick, disabled, or die, insurance helps to ensure that your financial plans won’t be severely compromised.
Shifting your risk of financial loss to an insurance company is a better scenario than dipping into your savings to fund unanticipated disruptions.
The protection provided by insurance also promotes financial and emotional peace of mind for you and your loved ones.
In closing, remember that before you invest, you should have adequate insurance coverage, all debts paid off (except your mortgage), and an emergency fund with 3-12 months of expenses.
Murphy’s Law states that “anything that can go wrong, will go wrong”, so make sure to get insurance and cover your ass!
That’s all for today - thank you for taking the time to read!
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