Insurance is an essential part of protecting yourself from unexpected costs, whether it’s for your health, car, home, or something else. But when you start reading through your insurance policy, you’ll likely come across terms that can be confusing. One of those terms is deductible.
In this blog, we’ll break down what an insurance deductible is, how it works, and how it impacts your finances. Our goal is to make it easy to understand so you can make smarter decisions about your insurance coverage.
1. What is an Insurance Deductible?
An insurance deductible is the amount of money you have to pay out-of-pocket for an insurance claim before your insurance company starts paying. In simple terms, it’s your share of the cost when something goes wrong, like when you get into a car accident or need medical treatment.
Let’s look at an example:
- If your car insurance deductible is $500 and you have an accident that causes $2,000 worth of damage, you’ll pay the first $500, and your insurance company will cover the remaining $1,500.
Every insurance policy has its own deductible, and it can vary depending on the type of insurance you have (health, car, home, etc.).
2. Types of Deductibles
There are two main types of deductibles in insurance policies:
1. A Fixed Deductible
A fixed deductible is a set amount that you pay every time you make a claim. This is the most common type of deductible in insurance policies.
For example, if your home insurance has a $1,000 deductible and your house suffers storm damage that costs $10,000 to repair, you’ll pay the $1,000 first, and your insurance will pay the remaining $9,000. Every time you make a claim, this deductible amount remains the same.
2. A Percentage-Based Deductible
A percentage-based deductible is based on a percentage of your insurance coverage or the value of the insured item. This type of deductible is more common in home insurance, especially for things like windstorm or earthquake coverage.
For example, if your home is insured for $200,000 and your deductible is 2%, you’ll have to pay $4,000 (2% of $200,000) before the insurance company pays for repairs.
3. How Do Deductibles Work?
Deductibles are designed to share the cost of a claim between you and the insurance company. The purpose is to prevent people from making small, unnecessary claims and to ensure that policyholders take some responsibility for the risk they’re insuring against.
Here’s how deductibles work in different types of insurance:
Car Insurance
Let’s say you have a $500 deductible on your car insurance. If you get into an accident and the repair costs are $3,000, you will pay $500 out of your pocket, and your insurance company will pay the remaining $2,500.
But if the damage is less than your deductible (let’s say $400), you will have to pay the entire $400, and your insurance company won’t pay anything because the cost didn’t exceed your deductible.
Health Insurance
Health insurance deductibles work a little differently. You’ll typically have to pay all medical costs up to your deductible amount before your insurance starts to pay. For example, if you have a $1,000 deductible, you’ll need to pay $1,000 in medical expenses first. After that, your insurance will start to cover a portion of the costs.
However, it’s important to note that some services, like preventive care, might be covered before you meet your deductible. Always check your policy to see what’s included.
Homeowners Insurance
If your home is damaged and needs repairs, your home insurance policy will help pay for the cost of fixing it. But first, you’ll have to pay your deductible. For instance, if you have a $1,500 deductible and a storm causes $10,000 worth of damage to your roof, you will pay the first $1,500, and your insurance company will cover the remaining $8,500.
4. Choosing the Right Deductible Amount
When you’re choosing an insurance policy, you’ll often have the option to pick a deductible amount. The higher your deductible, the lower your monthly or annual premium (the amount you pay for the insurance). On the flip side, the lower your deductible, the higher your premium will be.
Here’s how to decide which deductible is best for you:
Higher Deductible, Lower Premium
- Pros: Choosing a higher deductible will lower your monthly or annual premium, which means you’ll pay less for the insurance itself.
- Cons: If something happens and you need to make a claim, you’ll have to pay more out of pocket before your insurance kicks in.
Who it’s good for: A higher deductible might be a good option if you’re generally healthy, have a good driving record, or don’t expect to file many claims. It’s also a good choice if you want to save on monthly costs and have enough money set aside in savings to cover a high deductible in case of an emergency.
Lower Deductible, Higher Premium
- Pros: Choosing a lower deductible means you’ll pay less out of pocket when you make a claim. Your insurance will cover more of the cost.
- Cons: You’ll have to pay a higher premium, which can make your monthly or annual insurance costs more expensive.
Who it’s good for: A lower deductible is a good option if you expect to make claims more frequently (for example, if you have a health condition or live in an area prone to natural disasters). It’s also helpful if you prefer to pay more upfront to avoid larger out-of-pocket expenses later on.
5. When Do You Pay Your Deductible?
The timing of when you pay your deductible depends on the type of insurance you have.
- Car or Home Insurance: You’ll pay your deductible when you make a claim. For example, after an accident or damage to your property, the insurance company will require you to pay your share of the repair costs (the deductible), and then they’ll cover the rest.
- Health Insurance: You’ll pay your health insurance deductible over the course of a year. Every time you receive medical care, you’ll pay for the services until you’ve paid enough to meet your deductible. After that, your insurance will start covering a portion of your medical costs.
6. Deductibles vs. Out-of-Pocket Maximum
In health insurance, there’s another important term to know: out-of-pocket maximum. This is the most you’ll have to pay out of pocket for covered medical expenses in a given year, including your deductible, copayments, and coinsurance.
Once you reach your out-of-pocket maximum, your insurance company will cover 100% of your medical expenses for the rest of the year.
For example:
- Let’s say your health insurance deductible is $1,000, and your out-of-pocket maximum is $5,000.
- You’ll first need to pay the $1,000 deductible.
- After that, you’ll share the costs of medical services with your insurance company (this is called coinsurance), until you’ve spent a total of $5,000 out of pocket.
- Once you hit $5,000, your insurance company will cover the rest of your medical expenses for the year.
7. How to Save for Your Deductible
Since deductibles are something you have to pay out of pocket, it’s a good idea to have savings set aside to cover them. Here are some tips for saving for your deductible:
- Emergency Fund: Make sure you have an emergency fund with enough money to cover your deductible. For example, if your car insurance deductible is $1,000, you should have at least that amount saved in case you need to make a claim.
- Automatic Savings: Set up automatic transfers to a savings account specifically for covering your deductibles. This way, you’ll have money ready when you need it.
- Budget for It: Include your deductible in your budget planning so that you’re financially prepared if you need to make a claim.
8. Final Thoughts on Insurance Deductibles
Understanding your insurance deductible is key to managing your finances and making informed decisions about your insurance coverage. A deductible is your share of the cost when you make a claim, and choosing the right deductible can help balance your premium payments with your out-of-pocket expenses.
To make the best choice:
- Review your budget and decide how much you can afford to pay out of pocket in case of an emergency.
- Consider how often you’re likely to make a claim, based on your health, lifestyle, or the area you live in.
- Always have savings set aside to cover your deductible, so you’re not caught off guard when something unexpected happens.
By understanding and managing your deductible, you can protect yourself from financial surprises and feel confident that you’re prepared for whatever life throws your way.
