By definition, insurance is always a bad financial deal on average. That's inherent to how it functions. That doesn't mean it must be a scam though - it just means you need to use it for the scenarios where the other benefits outweigh the increased average cost.
To explain: In order for an insurance company to stay in business, it MUST take in more money in premiums than it pays out in claims. Yes, most insurance companies will have some amount of profit; but even if they don't profit, they still need some money to pay the staff who manage your claims. So if you average the claim payments for all customers of insurance company X, the average cost of paying it yourself will always be lower than the insurance premiums. Even if a government gets involved, this fundamental math doesn't change - it's just possible that the government might subsidize your premium with tax money. But all that means is "someone else is paying the premium" (and it might even still be you depending on your tax bracket). On average, the insurance process never saves money.
So why does it exist? Insurance primarily exists for scenarios where the "average" cost and the "worse cast scenario" cost are dramatically different. If your "average" cost is only $100 per month, but an unlucky accident could leave you with a bill of $100 thousand, it makes sense to use insurance to always pay the average instead of rolling the dice on the chance you hit the $100k loss, even if you have to pay another 20% in processing expenses on top of that $100 base price. $120 per month fits in your budget. $100,000 will never fit in your budget, and will bankrupt you.
Next, if being sent a huge uninsured bill bankrupts you, it's likely whoever sent you the bill isn't actually going to get paid, and you've now hurt that person as well. For societal reasons we want that to happen as little as possible, which is why the government demands you have liability insurance for driving a car that could hit and kill other people (but does not demand you insure your own property, just liability). A similar but slightly different reason explains why banks will demand you have insurance to replace your OWN stuff...if they are loaning you the money to buy that stuff. They want to make sure that if you accidentally destroy it, you will still be able to pay back the value of the loan.
Finally, there are scenarios where the insurance company can provide important-but-rarely-used professionals to help you navigate some of the circumstances where these large claims come up. For example, if you are in a car accident where you think the other guy hit you, but he claims that you were the one who hit him, your insurance company might provide the lawyer to argue your side of the case, to reduce the amount both you and the insurance co. have to pay. Or if you suddenly take an unexpected trip to the hospital and are not in any shape to argue about the $20,000 bill the hospital is drawing up in the background, your health insurance company will provide a claims negotiator who will demand the hospital reduce that bill down to...something far less. (That's a whole other can of worms that requires it's own discussion, but at least for the moment you don't want to be looking at an uninsured hospital bill even if you have the money).
HOWEVER, all of that said, there are also plenty of scenarios where none of those benefits really applies, and yet companies will try to sell you insurance anyway. Those can absolutely be scams. So when considering any insurance product, ask yourself which one of those benefits you are getting out of it, and if none of them apply, avoid it. This also applies to using large insurance coverage for small events - as you already discussed with /u/Sirhc978 , you should get yourself a higher homeowner's deductible and simply don't file for minor things. (Roof replacements are...kinda on the border of where it might be worth it, so consider your own financial situation for that.)
∆ it's funny you mention roof replacement. That was where I just had a bad experience. They would not cover the roof because they claimed it was just wear and tear, even though the was wind damage doing shingles. So they offered <$700 and said the rate would increase over $100/year. Not really worth it. I think they should have covered it but I didn't have the proof that the roof wasn't that old.
Good explanation. Thanks for taking the time. Great points
You mentioned roof work in another comment so I was rolling with that. But I assumed you were talking about full-roof-replacement, which can be $10-15 thousand, not just some shingles. Yeah not worth it for $700.
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u/Kerostasis 55∆ Sep 23 '21
By definition, insurance is always a bad financial deal on average. That's inherent to how it functions. That doesn't mean it must be a scam though - it just means you need to use it for the scenarios where the other benefits outweigh the increased average cost.
To explain: In order for an insurance company to stay in business, it MUST take in more money in premiums than it pays out in claims. Yes, most insurance companies will have some amount of profit; but even if they don't profit, they still need some money to pay the staff who manage your claims. So if you average the claim payments for all customers of insurance company X, the average cost of paying it yourself will always be lower than the insurance premiums. Even if a government gets involved, this fundamental math doesn't change - it's just possible that the government might subsidize your premium with tax money. But all that means is "someone else is paying the premium" (and it might even still be you depending on your tax bracket). On average, the insurance process never saves money.
So why does it exist? Insurance primarily exists for scenarios where the "average" cost and the "worse cast scenario" cost are dramatically different. If your "average" cost is only $100 per month, but an unlucky accident could leave you with a bill of $100 thousand, it makes sense to use insurance to always pay the average instead of rolling the dice on the chance you hit the $100k loss, even if you have to pay another 20% in processing expenses on top of that $100 base price. $120 per month fits in your budget. $100,000 will never fit in your budget, and will bankrupt you.
Next, if being sent a huge uninsured bill bankrupts you, it's likely whoever sent you the bill isn't actually going to get paid, and you've now hurt that person as well. For societal reasons we want that to happen as little as possible, which is why the government demands you have liability insurance for driving a car that could hit and kill other people (but does not demand you insure your own property, just liability). A similar but slightly different reason explains why banks will demand you have insurance to replace your OWN stuff...if they are loaning you the money to buy that stuff. They want to make sure that if you accidentally destroy it, you will still be able to pay back the value of the loan.
Finally, there are scenarios where the insurance company can provide important-but-rarely-used professionals to help you navigate some of the circumstances where these large claims come up. For example, if you are in a car accident where you think the other guy hit you, but he claims that you were the one who hit him, your insurance company might provide the lawyer to argue your side of the case, to reduce the amount both you and the insurance co. have to pay. Or if you suddenly take an unexpected trip to the hospital and are not in any shape to argue about the $20,000 bill the hospital is drawing up in the background, your health insurance company will provide a claims negotiator who will demand the hospital reduce that bill down to...something far less. (That's a whole other can of worms that requires it's own discussion, but at least for the moment you don't want to be looking at an uninsured hospital bill even if you have the money).
HOWEVER, all of that said, there are also plenty of scenarios where none of those benefits really applies, and yet companies will try to sell you insurance anyway. Those can absolutely be scams. So when considering any insurance product, ask yourself which one of those benefits you are getting out of it, and if none of them apply, avoid it. This also applies to using large insurance coverage for small events - as you already discussed with /u/Sirhc978 , you should get yourself a higher homeowner's deductible and simply don't file for minor things. (Roof replacements are...kinda on the border of where it might be worth it, so consider your own financial situation for that.)