The Basics of Umbrella Insurance

Principle 5 of my five principles of personal finance is to protect the value of your assets. To me this means to have the right kinds and levels of insurance as well as have a valid estate plan.

I've discussed almost all forms of insurance on this blog and also have regular reminders about the need for a will. But there's something I haven't addressed yet and I'd like to do so today. That topic is umbrella insurance.

Let's start with a definition from Wikipedia:

Umbrella insurance refers to insuring more than one property as opposed to insuring only one. For example the owner might get a discount for insuring both his house and car rather than insuring them with separate policies because it might cost more. Typically, an umbrella policy is pure liability coverage over and above the coverage afforded by the regular policy, and is sold in increments of one million dollars. The term "umbrella" is used because it covers liability claims from all policies underneath it, such as autos and homeowners policies. For example, if you have an auto insurance policy with liability limits of $500,000 and a Homeowners policy with a limit of $300,000, then with a million dollar umbrella, your limits become in effect, $1,500,000 on the auto policy and $1,300,000 on a homeowners liability claim. Umbrella policies are mainly used by those who have sizable unencumbered assets, such as a home with a large amount of equity to ensure that even a catastrophic claim will not allow those assets to be placed at risk.

Now let's move to a piece from the NY Times on umbrella insurance. They illustrate how umbrella insurance can work:

Here's the nightmare: Your car skids. You crash into a Mercedes with a highly paid business executive at the wheel. He’s hurt so badly he cannot return to work. A jury awards him millions of dollars and you have to pay it.

You’re wiped out financially. The court takes your savings, goes after your home and, for decades, requires you to give up a part of your salary.

For some people such a nightmare could never happen. They have an extra insurance policy, known as umbrella or excess liability coverage, which takes care of their liability for the lawsuits and medical bills of the auto accident victim — or of the teenage guest who dives into the shallow end of the swimming pool or the deliveryman who trips on the front steps.

And here's another example:

One of Mr. Cox’s clients crashed into the rear of a car on a slick highway. A woman and a child were critically injured. After two years of litigation, his client settled the lawsuit for more than $5 million. The client had $15 million in umbrella coverage. The policy paid for the settlement and all legal costs. “Without the umbrella,” Mr. Cox said, “they would have been completely wiped out.”

As you can see, umbrella insurance can be a key part of protecting your assets over and above what are normal insurance levels. For those with any sort of significant level of assets, umbrella insurance is a good financial move, but not many people carry this sort of protection:

State Farm, the biggest home insurer in the country, with a clientele of mainly middle- and lower-income homeowners, says about 12 percent of its policyholders buy umbrella coverage.

For those who want/need umbrella insurance, it's very affordable:

Buying such coverage usually does not greatly increase the overall cost of home and auto insurance. For example, in Louisiana, insurance on a $1 million home well away from the coast might run $4,500 a year, Ms. Edmonston, the Baton Rouge agent, said. Two cars could raise the cost of the package to $7,500. And $5 million in umbrella coverage might cost about $600 more, or about 8 percent of the total. In New York, agents say, $5 million in coverage might cost about the same.

I've had umbrella insurance for several years now and just upped ours to cover our ever-growing list of assets. In today's society where people sue others at the drop of a hat, cheap, umbrella insurance is a key part of protecting those assets that you've worked so hard to accumulate.

Comments

[Glenn]

Good post. I have had an umbrealla policy for years. Your post now has me thinking about possibly upping it a bit, since there are many high paid executives driving high end cars in Dallas;-)

[baldzac]

I once asked my insurance agent about an umbrella policy, and he noted that if you don't have a net worth way up there (mine is less than 500k which is the limit of my auto and homeowners) with a lot of cash sitting around, having an umbrella policy can be putting a bullseye on yourself for a lawsuit. That is, if you have a not-that-high net worth then you might not really be worth going after in an expensive trial, but if on top of that you have a fat multimillion-dollar umbrella policy, it potentially you look a lot juicier.

I'm not exactly sure what I think, but I'm not sure why my agent wouldn't be giving me his honest opinion in advising me NOT to take out a policy.

So, just some food for thought if you DON'T happen to have a stellar net worth.

[FMF]

Baldzac --

How would someone know you had an umbrella policy before deciding to go after you?

[Beyond Paycheck to Paycheck]

An umbrella policy can be a good idea even for those without "stellar net worth," especially if they have significant earning potential. With all the frivolous law suits out there and related large judgments, an umbrella policy can be good protection for many people.

My wife was once in a car accident - she was fine, it was a five collar collision on a highway near NYC. One person was mildly injured (or she claimed, whiplash - hard to prove or disprove). Regardless: Although my wife's car was the third one hit (her car was stationery at the time it was hit), she was (like others, presumably) sued for $5 million. She drove a several-years old Honda Civic. She didn't look like she had money. Years later, the suit was thrown out, but we were glad we had an umbrella policy (even though it wasn't $5MM!)

Rule # 1 of insurance: don't risk a lot for a little. That's an umbrella policy in spades.

FMF -
That's a good question. It seems like the kind of thing your typical back-of-the-phonebook, 1-800-INJURY lawyer would try very hard to find out, though. Maybe he'll Google you and find you bragging about having umbrella insurance on your blog :o)
Seriously though, my agent telling me that was enough to dissuade me that day, but it's been a nagging thought for me ever since so I'm curious to know what others think for those of us with more average net worths.

[sow]

Here are some thoughts to consider. The reason we have an umbrella policy is for asset protection, of course. I don't think it matters whether or not you have a "high net worth." If someone has been seriously injured and wants money to cover damages, if it's worth their while to get any money from you, I think they would.

But asset protection doesn't stop here. There are other strategies that you can take in order to further protect yourself more than just an umbrella policy. For example, if someone gets injured on your real property (like your home), he/she can easily find out who owns that property. If you have equity in that house, guess what, it's not protected from litigation. Consider getting it under a revocable trust. Also, consider keeping the equity outside of the home (which I've taken heat for on this blog =)). If someone goes after your assets, they also pick up the debt along with it. Think they'll want to go after your house if you're mortgaged to the tilt!?

Also, your Qualified Retirement Accounts are at risk too. This is one of the reasons why we don't put money in these and utilize our Whole Life insurance policies (another thing I've taken heat for). The cash value in these policies are protected from creditors (in most states).

[baldzac]

Elaborating on what my insurance agent explained to me - when you're going after someone of average means, it's easy to threaten litigation and it's not even that hard to file a lawsuit, but it's quite another matter to take it through trial, go through discovery, depositions, expert witnesses, etc., when in the end you might get a modest judgment or nothing at all. By threating a lawsuit against a target of average means, what you're really gunning for is a settlement from whatever insurance they do have.

Anyway, I think it's worth highlighting that the NY times article cited in this post (a) mostly talks about quite wealthy people and (b) quotes only lawyers and insurance agents, who have a vested interest in selling these instruments (especially the lawyers). I would like to know of any impartial advice about whether it really makes sense for those of us with, at best, middle-of-the-road wealth.

I guess the peace of mind might be worth it. But, say you're exchanging some heated words with someone after a fender bender. Whatever you do, don't let it slip - "Go ahead and sue me, I've got umbrella insurance!"

[Rick]

sow: You won't get any heat from me for those positions. I agree with you on the home equity. And I'm always interested in new thoughts and opinions. I've never heard the opinion before about keeping your savings in a life insurance policy, but it definitely sounds interesting. Thanks for sharing.

[Kurt]

Been thinking about this for a while. This reminded me I should really do it. $200/yr for $2,000,000 in coverage? Sold. How does state farm make any money?

[Duane]

Another consideration for umbrella insurance is for people with rental properties. Much of the advice literature tells people to set up an LLC or other structures to insulate their personal net worth from the business. At some point this makes sense, but most people with less than five homes can more easily protect their interests with an umbrella policy.

[sow]

Duane,
I have to disagree. If you have rental properties, or any other asset, and they are under your personal name and not an LLC, then you may be a juicier target for litigation. If you have equity in those properties, then they can access it. Keeping them in an LLC separates them from your personal assets. This is one way the rich protect themselves.

[Jana]

Who can advise the best way to protect rental properties? We now own 4 rentals in addition to our home and will be buying 2 more. Would a financial planner or a CPA be the right people to go to for advice?

[Joey]

Any advice on selecting the amount of umbrella insurance to carry?

[mel]

An insurance agent should be able to provide you with help in determining what your risk is and how much coverage you need. However, many people will want to discuss this with a full-service financial planner or advisor who is knowledgeable about the topic (or who has resources or team members who are) to give you an impartial answer. Same for rental properties, find a financial advisor with specific experience there.

[Zac]

My policy in Oklahoma is $600 for 1 million coverage.It jumped when my son turned 16.

[Sudi gill]

I had my auto and home insurance through Liberty Mutual and recently switched my auto to Geico. When I tried to get an umbrella policy added with Lib Mut they declined my request stating I needed both auto and home with them. It doesn't seem legal that they can refuse...anyone know the law out there?

[Tony]

To have a house or car covered by an unbrella is it necessary that it also be insured by the same company as the unbrella company? I am talking about the basic home owners insurance and auto insurance.

[FMF]

Tony --

I'm not sure if it's required by all companies, but my insurance company forces me to have coverage of a certain level on my cars before I can buy umbrella insurance from them (same company).

[Wondering on the East Coast]

In order to get my umbrella policy from Geico I had to up my auto insurance coverages to the maximum so I'm paying a LOT on auto insurance to qualify for $150 policy. It helps me feel secure but I'm slowly becoming aware that I'm paying alot for the protection.

[David Nehring]

I ran off the road. Reason, the guy sitting next to me was intoxicated and grabbed the wheel. The police
were called, I had not been drinking, there were no citations issed but he was taken to the hospital for a slight head laceration from the windshield. Being
"drunk" he doesn't remember any of this! He was "drunk" a week ago, I called the police and filed a report for physical and mental abuse, he was taken to jail. Anyway the front of my car is totaled. Am I liable for his injuries, I really have no assets. Need some advice??
Thanks: David

[Dave Eby]

Just remember that the insurance company usually has a choice to provide the insured a legal defense or not. The legal defense normally does not come out of the policy limits but is paid in addition to them.

Here's the catch. If the insurance company chooses to pay the policy limits it is off the hook for your legal defense.

Get enough coverage to feel certain you will not be left swinging in the wind. It may be better for the insurance company to pay the $100,000.00 policy limit than defend a bus full of injured folks and pay the policy limits anyway. The reason they want to defend you is to keep the law suit as low as possible since they have to pay it.

Personally I like State Farm's umbrella as it includes uninsured motorist coverage that protects me and my family against the knucklehead that does not carry adequate coverage.

BTW FYI was an agent/agency owner from 1975 to 1998, public adjuster for about two years and even spent a year teaching Florida licensee wannabes.

[B.Barth]

Just purchased policy and my company said I had to increase my auto and boat liability levels to get $1M. The home insurance was at the appropriate level. The cost for my wife and I was $445. See ranges from $300. to $600. in the thread. My insurance company is in TX and I live in Indiana.