Global Courant
When most people consider their insurance needs, only certain types of coverage usually come to mind. Health insurance and life insurance (or sometimes disability insurance) protect you and your loved ones; car and homeowners or renters insurance policies protect your most important tangible assets.
Personal liability insurance, often referred to as an “umbrella policy,” is rarely on this list. But when a rainy day – or a costly lawsuit – comes along, sometimes nothing but an umbrella will do.
As the name suggests, personal liability coverage exists primarily to protect against liability claims. In most cases, that means you and your assets become the target of a civil lawsuit. A personal liability policy may seem excessive to individuals who already have three or four insurance policies. It is true that not everyone needs such protection. But an umbrella policy effectively defends your assets and future income against claims that can arise from a wide variety of scenarios. Much like flood insurance for beachfront property, liability insurance is a product you hope you never need, but one that can provide a lot of peace of mind in the meantime.
Who needs liability insurance?
Some degree of personal liability coverage is built into homeowner’s (or renter’s) insurance and auto insurance. For many people this may be enough. In part, this is because some types of assets are protected by state and federal law. For example, a court can’t force you to use qualified retirement accounts, such as 401(k)s, to pay a court judgment, and most states have laws protecting traditional IRAs. Some states also protect Roth IRAs and other retirement accounts. Many states also protect your primary residence, although the exact rules vary; For example, Florida offers very strong protections in this area, while other states may only protect a certain level of equity.
You can also protect certain assets from litigation through estate planning tools, such as well-structured and funded irrevocable trusts. However, be wary of setting up such trusts right after an incident that you fear could trigger a lawsuit. If it seems like you’re just trying to evade future creditors, the courts may rule that the transfer of assets is fraudulent, making those assets available to pay a judgment.
If you don’t have many assets outside of your retirement savings and primary residence, your existing liability coverage may suffice. But second homes and non-retirement investment accounts are vulnerable. High-income earners, and their spouses, may also want to consider their coverage options, as courts have been known to withhold wages to comply with judgments.
While amounts vary by geography and insurance policy, homeowner’s insurance usually includes up to $300,000 in personal liability coverage. Auto insurance typically covers up to $250,000 for each person and $500,000 per accidental injury, and less for incidents involving property damage only. Still, serious accident lawsuits can sometimes lead to multimillion-dollar awards or settlements. This is where the overarching policy comes into play.
Most people consider car accidents to be the main trigger for such lawsuits, and rightly so, as car accidents are relatively common and can cause a lot of damage. But there are many different situations in which you can be held liable for an accident. You may be hosting a party at your home where one of the guests is seriously injured. Your dog may bite a stranger or familiar. If you employ domestic workers, such as a babysitter or home care worker, the employee can sue not only for bodily harm, but also for wrongful termination or harassment.
There are other liability risks that you may not think about. For example, the hyper-connected world of social media creates far more opportunities to defame or defame someone, even without doing so on purpose. Your teenage or young children can also cause such problems; in the worst case, they can get involved in a cyberbullying incident or harassment that takes a tragic turn. Teenagers also increase your liability when they get behind the wheel. Even grown children can activate statutes of “vicarit liability” that can make you personally liable in certain circumstances, such as if they borrow your car and then get involved in an accident.
Another area that some people overlook is the risk of serving on a nonprofit board. Many nonprofits are too small to provide much, if any, protection for board members’ personal assets in cases where the organization and its board of directors are sued. Board members may consider specific director and officer insurance policies as well as or in lieu of an umbrella policy. People whose charitable work — or whose professional activities — brought them into the public eye may also want to consider increased liability coverage because of the potential damage a lawsuit could do to their reputation and their financial health.
When considering the need for personal liability insurance, it is also worth considering the common law concept of “joint and several” liability. In many jurisdictions, a plaintiff can recover all damages from one of several defendants, regardless of fault. In other words, if four defendants are held equally liable, the plaintiff can recover 100 percent of the damages from one of them and none from the other three. Thus, many lawyers in such cases focus on the defendant with the highest assets, assuming that this method is most likely to yield the largest payout for their client.
How Much Liability Insurance Should You Carry?
As you can see, individuals with high net worth, high income potential, or both have reason to be concerned about their liability exposure. Once you’ve decided to buy an umbrella policy, the next logical question is how many insurance policies to buy.
Unfortunately, there is no specific formula to determine the right amount of coverage. A good rule of thumb is to have at least enough insurance to cover your net worth and the present value of your future income stream. A Certified Financial Planner or an insurance agent can help you with such calculations, and there are also several tools online designed to help you calculate a figure. Keep in mind that insurance company resources and advice will usually want to sell you more insurance than you need, but it can still be helpful to see what factors affect your coverage. Some of these are intuitive, such as your current net worth and assets you own. Others are more directly concerned about the risk of accidents; for example, you may want more insurance if you have a trampoline or a swimming pool, and you can also expect slightly higher premiums.
As with any insurance decision, shopping around is a good idea. But there are real benefits to buying the majority or all of your insurance products from one provider. Consolidating your coverage not only eases the administrative burden, but also makes it easier to identify potential gaps. For example, if your homeowner’s insurance policy covers $300,000 in personal liability insurance, but your umbrella policy doesn’t go into effect until $500,000, you’ll be responsible for the $200,000 in between. To avoid this, most companies that sell umbrella insurance policies require customers to increase their basic liability coverage to close such loopholes. Sticking with one company can also make the process easier in the event of a lawsuit, as you won’t have two separate companies handling two parts of your coverage. And by bundling you can get premium discounts for your different policies.
The good news is that umbrella policies offer good value in most cases. Since catastrophically large lawsuits are relatively rare, companies can afford to spread the risk widely across their customer pool. While exact rates vary, $300 to $500 per year can often add up to $1 million in coverage. This figure can rise or fall depending on the number of houses, cars and drivers in a policyholder’s household, as well as the part of the country where he or she lives. However, it’s almost always the case that whatever you pay for the first $1 million in coverage, the second million will cost less. If $1 million in coverage costs $500 a year, $5 million will almost certainly be less than $2,500.
For such relatively low premiums, personal liability insurance offers a great deal of peace of mind. In addition to the basic function of the product, some policies go beyond that. Extras you may encounter include excluding legal defense costs from the coverage limit or offering reimbursement for the costs of public relations companies to manage the fallout of the incident. Depending on your needs and your lifestyle, it may be worth comparing features and costs when choosing a policy.
We in the United States live in a very litigious society. Some of these lawsuits are frivolous; many are not. The reality is that civil litigation can often result in verdicts or settlements running into the millions of dollars, and judges and juries are under no obligation to limit damages awarded to an amount that the defendant can easily afford. Personal liability insurance protects you in such worst-case scenarios, even if the court finds you fully liable.
So while it may seem unnecessary to add another insurance policy at first, an umbrella policy for those with assets that are vulnerable to creditor claims is an economically sensible way to protect against a rainy day in court.
How Much Liability Insurance Do You Need?
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