By: John Pitlosh
By: John Pitlosh CFP®, MST
Life couldn’t be better…Your business is booming, your wife is up for a promotion, your portfolio is way up, and all your kids received full scholarships to Ivy League schools. It’s too bad someone had an accident in your home during your son’s graduation party. After the resulting settlement, you have been wiped out financially and now your net worth resembles the national debt. One of the most effective ways that you can protect yourself from a costly lawsuit is by purchasing an umbrella insurance policy.
Whether you are directly involved in the action or not, there are a million different ways someone can end up on the wrong end of a catastrophic lawsuit. While these types of events do not occur every day, they occur often enough that people with something to lose beyond their basic home and auto liability limits should take reasonable measures to protect themselves against large lawsuits.
An umbrella policy is a high dollar insurance policy that someone can purchase in multiples of $1 million dollars, and its sole function is to protect people against large lawsuits resulting from personal injury, bodily injury, or property damage. In addition, most policies will also pay for lawyers and other legal expenses. When you compare premium levels that are in the neighborhood of $150 – $300 per million dollars of coverage against the cost of your homeowner or automotive policies, it’s a relative bargain. Like most types of property casualty insurance, you can get significant discounts if you also have other lines of insurance with the same provider.
In most cases the umbrella policy is structured to kick in once the primary coverage on your home, automobile, boat, etc., are used up and have run beyond their policy limits.
Let’s say little Jimmy is late for school and he gets into an auto accident where the cost of the injuries he caused was $800,000. When you go to review your auto policy, you notice that the bodily Injury limit on your auto insurance is $300,000. As a result, your auto policy will cover $300,000 of the injuries, so you are left holding the bag for the other $500,000. This is where your umbrella policy kicks in and covers the other $500,000 or up to the umbrella policy limit.
As an advisor, it is not uncommon to meet with clients that have spent thousands of dollars to protect their assets using complicated trust documents only to find out that they have the most basic home and auto insurance policies with no umbrella coverage. A very large percentage of people that would benefit from an umbrella policy either do not own a policy or they are vastly underinsured. The main reasons why most people do not buy umbrella coverage are due to the fact that they have never heard of it or they don’t understand how it works and why they need it.
One of the primary culprits responsible for consumer ignorance is people don’t have sit down discussions with their property casualty agents to discuss the changes in their life and net worth. Another contributing factor to the lack of coverage is that most of an individual’s other advisors are also ignorant on the topic that has little to do with the services they provide.
Working with your property casualty specialist really is the best way to determine the appropriate coverage cap as they deal with these types of claims on a regular basis. The rule of thumb is to maintain umbrella coverage that is equivalent to your net worth. However, you also need to assess your own personal risks to see if you need to bump your coverage even higher. Some of the prime risk factors that would cause someone to increase the policy limits beyond their net worth include the following:
Prime Risk Factors:
- Frequently entertain others at their home or have a pool.
- Let people stay at their vacation home without supervision.
- Families with teenagers that can drive.
- People that have a dog that is too big to fit inside a purse.
- People that have grown up toys like boats, motorcycles, jet skis, or ATV’s.
- Someone who frequently conducts business from home.
- Someone who owns rental properties.
In today’s litigious society it is not unheard of to find yourself on the other end of a lawsuit for reasons you couldn’t have thought up in your wildest dreams. While an umbrella policy isn’t a one and done solution for asset protection, it is a cheap and easy first step that should give some peace of mind.