In 1990, MC Hammer was everything if you were in 7th grade. Any kid who could pull off his dance moves achieved instant status at my middle school. (There were a lot of Filipino kids in my middle school. We liked to dance). In 1990, wild success looked like: best-selling albums, starting the drop-crotch pants craze (that's been improbably resurrected) and a Taco Bell deal that gave rise to one of their greatest commercials (making use of the aforementioned pants). Despite that success, just 6 years later MC Hammer filed for bankruptcy.
MC Hammer didn't realize how much money he was losing through bad investments and a lavish lifestyle (including a solid gold toilet). We can all probably pat ourselves on the back for avoiding the solid gold toilet purchase. But before you get too confident, did you know you could be losing money through decisions you didn't even know you were making? This is true especially in insurance. Consider the following scenario to see if you're spending too much on insurance (and don't even know it):
**Scenario: ** Let’s say you have an insurance policy on your car. Your policy requires you to cover the first $500 of any loss or damage to your car before the policy kicks in to cover the rest. (This is a $500 insurance [deductible](http://www.investopedia.com/terms/d/deductible.asp "Investopedia definition of "deductible"" )). You get into a minor fender-bender. Fortunately nobody is injured, but your car suffers $1,000 in damage. After posting a rant on Facebook with extraneous hashtag use (Stop signs are not a suggestion! #gobacktodriversed), do you:
Choice A. Report the damage to your car insurance company and make a claim for the expenses. You pay the $500 insurance deductible and the insurance company covers the other $500 in expenses. Or
Choice B. Just pay the $1,000 bill yourself to avoid making a claim to your insurance company. It’s worth covering this expense to avoid a possible increase in your monthly premiums (the amount you pay to have the policy) from making a claim.
*Answer: ** If you chose "B", you just gave the insurance company a freebie at your own expense!
So what? Rather than giving away money to your insurance company, do the following easy steps to keep that money in your pocket:
- Find your insurance deductibles on all of your different policies (start with car and homeowners/renters insurance)
2)For each policy, run yourself through scenarios like the quiz above (Would I pay a $1,000 expense instead of making an insurance claim? What about $1,500?)
3)If the answers in step 2 are higher than your insurance deductibles in step 1, consider changing your plan to save money. Even little changes can translate to big savings. According to a study by the Insurance Information Institute, raising your car insurance deductible from $200 to $1,000, could save you up to 40% on the overall cost of your policy.
* What’s up with that? The scientific explanation for the PolicyGeniuses
[caption id="attachment_535" align="alignright" width="300"] "I just need to invest a little more money to get this dog necktie business off the ground...."[/caption]
Our brains are hardwired to avoid loss -- so much so that we’ll often take on bad risks to avoid losses. Behavioral economists and cognitive psychologists call this loss aversion. Loss aversion can lead us to overlook good financial decisions or cause us to throw good money after bad (to avoid "losing" those sunk costs).
For example, loss aversion leads most people to choose insurance plans with deductibles that are too low, because our brains don’t like out-pocket-loss (which is basically what an insurance deductible is). But the way insurance works is: the lower your insurance deductible, the higher your monthly premium. In the test above, choice B is basically saying, "I’ll pay the higher monthly premiums for a lower $500 deductible. But when push comes to shove, I’m actually going to pay a $1,000 deductible." You’d be better off choosing a plan with a $1,000 insurance deductible, which would be overall cheaper.
Now you know!
How do you think about losses vs. gains in insurance or otherwise? Have you saved money by going with a higher insurance deductible? We'd love to hear your stories in the comments below or at firstname.lastname@example.org