Demystifying Insurance Excess
Picking the right insurance excess can be tricky. Excess is the money you pay when something goes wrong, like a broken window or water leak. Let’s make it simple.
High or low excess?
If you pick a high excess, you pay less money every year for insurance. But, if something happens, you will have to pay more of your own money to fix it. On the other hand, a low excess means you pay more for insurance every year, but less when something goes wrong.
This balancing act can feel like a complex puzzle when choosing an excess that’s affordable at claim time, and working out the risk of actually having a claim. So, let’s help untangle this decision-making process.
Balancing insurance cost against excess
When deciding on an excess, people typically weigh-up the total cost of insurance against potential claim scenarios. If no claims are made, a higher excess results in financial savings. However, should a claim arise, the policyholder would bear a larger portion of the cost.
It’s also really important to know that an excess is applied per incident. For example, if a tenant stains the carpet and breaks a window during the course of their tenancy, you’ll likely pay more than one excess. Learn more about multiple excesses.
How do insurance companies decide how much?
The excess versus premium reduction calculation is one that insurers work on diligently, with a lot of analysis going into determining the reduction in premium versus the quantum of claims. In simple terms, they look at how often bad things happen and how much it costs to fix them.
The balance of risks and cost reduction is not always satisfactory to policyholders. For instance, there’s a growing sentiment that insurers should provide more substantial savings to policyholders willing to take on higher excesses, but in reality, it all comes down to the numbers.
The underwriting factor
The constraint in adopting a more aggressive approach to your excess lies in the underwriting process. It all boils down to the mathematical balance between the money coming in and the money going out. Analysts run comprehensive research, looking at claims data and applying hypothetical excesses, and take account of the risk landscape at the time.
From a policyholder perspective, we see the focus often leans towards insuring against significant events, such as major damages to property, and it is this type of property owner that chooses a higher excess (i.e $1,150 +).
In other words, insurance is really good for big events like fires or earthquakes. Some people who are more worried about these big events should choose a higher excess. This way, you’ll only pay when really big stuff happens, as it implies not claiming for smaller incidents. It’s really about covering events that could cause significant financial stress, or even ruin.
In the case of landlords or rental property owners, particularly those with a more extensive portfolio, we see that there is a trend taking on higher excesses of $1,150 or $2,000.
Spreading the risk
If we take a practical example of an Auckland house with a $700,000 replacement value. If you choose the lowest excess of $400, the insurance would cost around $2,000 per year. But if you pick a $2,000 excess, this reduces the premium to around $1,500, saving $500 upfront.
But remember, should you have a significant claim, such as a $10,000 kitchen damage, you would have to pay an extra $1,600 in excess. Meaning that you are around $1,100 worse off when factoring in the original premium saving.
If you tend not to have claims and have a history of this then a $2,000 excess might work out for you over the long term, so long as you have the ability to fund the excess should you need to claim.
We often hear customers talk about ‘self-insurance’ and selecting a high excess is a form of this, as effectively the homeowner is sharing more of the risk of loss with the insurer. Over time the premium saving can accumulate into a significant amount. And while with a high excess you take on some of the risk, you’re covered for the big events – where an excess of $2,000 might not seem so daunting.
Your Circumstances Matter
The decision on choosing the right insurance excess often hinges on personal circumstances, whether you are a landlord or a homeowner. Newer landlords and homeowners, for example, may lean towards caution and choose a lower excess to mitigate immediate financial burdens. On the other hand, seasoned landlords might opt for higher excesses, balancing potential out-of-pocket costs with lower premium payments. The choice ultimately depends on your individual tolerance for risk and your financial flexibility. Homeowners should consider their home maintenance track record, the age of their property, and any recent renovations that could impact the likelihood of filing a claim.
Data helps
Understanding the probability of filing a claim can also guide your decision. For both landlords and homeowners, estimating potential damage is often challenging. However, insurers, equipped with extensive datasets, can provide valuable insights. For instance, if you own 10 properties, whether they are rental units or include your primary residence, statistics suggest that you can expect at least one claim of a reasonable nature each year. This aggregated data helps in assessing risk and making more informed decisions about your insurance excess and premiums. Homeowners can benefit from reviewing local crime rates, weather patterns, and historical claim data specific to their neighborhood to better understand their unique risk profile.
Navigating the world of insurance excess need not be a daunting task. Whether you’re a landlord managing multiple properties or a homeowner safeguarding your personal haven, leveraging data and understanding your personal circumstances can lead to more confident and strategic insurance choices.
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