4 Mistakes You Can't Afford When Buying Insurance

When buying insurance, consumers need to make sure they are making smart choices. Insurance is there to provide crucial protection in the event of a disaster. Without the right coverage, a consumer could face serious damage to their bank account and overall financial life.

Anyone buying any type of insurance policy should be sure to avoid these four crucial mistakes that could result in major regrets.

1. Buying too little coverage

Buying too little coverage could lead to uncompensated losses. For example, if a homeowner only buys $100,000 in dwelling coverage and their house is worth $200,000, they wouldn't get back the full amount of money needed to rebuild their home if it was destroyed.

In fact, homeowners insurers have a specific rule that penalizes property owners for purchasing too little protection called the 80% rule. If a homeowner doesn't have replacement value coverage equal to at least 80% of their home's value, any payout they receive would be pro-rated.

For example, in the above example where the homeowner has $100,000 in coverage on a $200,000 home, the homeowners insurance policy would only pay 50% of a covered loss -- even if it was below the maximum limit. So, if $50,000 in damage was done, although this is below the $100,000 in protection in place, the insurer would still pay just $25,000 out to the homeowner.

Those who do not want uncompensated losses should make sure they have a policy with a large enough coverage limit to replace their home or car. And they should make sure to have the right kinds of coverage that protect against all potential losses. This includes flood insurance for a home in a flood zone and collision coverage in case they are in an at-fault car crash.

2. Choosing an insurer based on price alone

The cheapest insurer may not always be the best one, especially if it has a poor reputation for handling claims. So, policyholders should not shop based on price alone or they could end up regretting it.

It's important to check J.D. Power Rankings to see how an insurer fares when it comes to customer satisfaction. Consumers should also read reviews from the Better Business Bureau, and check the insurer's AM Best Rating to make sure the company is financially sound. If an insurer has a low price but a poor reputation, they should look elsewhere.

3. Setting the wrong deductible

Insurance buyers need to set a deductible. That's the amount they pay out of pocket when there is a covered loss before an insurer picks up the rest of the tab.

A deductible that is too low will result in unnecessarily high premiums. But a deductible that is too high may be unaffordable in the event something goes wrong. Consumers should consider the impact of changing their deductible on their premium price and see how long they'd need to be claim-free to end up better off with a higher deductible.

For example, let's say a driver goes from a $100 car insurance deductible to a $250 deductible on a collision coverage policy with a $420 six-month premium. The driver could save 29% on the cost of that premium, as the price falls to $300. After saving $240 a year ($120 per six-month premium), the consumer would more than make up for the added $150 they'd have to pay out of pocket in the event of a crash. So, if they didn't end up in a collision in the first year, they'd be better off with the higher deductible.

It's also important to think about whether enough money would be available to pay for the deductible. A consumer who wouldn't actually have an extra $150 to pay out of pocket shouldn't raise their deductible by that much, as they'd be in trouble if they needed to make a claim.

4. Not shopping around for coverage

Finally, not shopping for coverage is a huge mistake. There can be a big difference in premium prices and other coverage terms from one insurer to another, and consumers need to shop around to find the best deal.

It's a good idea to get at least three insurance quotes from different carriers and to compare costs each year to make sure the coverage in place is still the most affordable option. This way, consumers can avoid paying more than they need for the protections they put in place.

By avoiding these mistakes, insurance buyers can get the right coverage from the best carrier for their needs -- and can ensure they don't overpay for it. It's well worth a little bit of time and effort to get the right policy, since insurance offers protection against catastrophic financial loss -- and no one wants to be left without the right coverage when disaster strikes.