Understanding Insurance Excess: Meaning And Necessity

Introduction:

Insurance is a crucial safety net that protects individuals and businesses from financial loss due to unforeseen events. Whether it’s vehicle, home, or travel insurance, policies often include an excess. Understanding insurance excess, its meaning, and why it is necessary can help policyholders make informed decisions and manage their risks effectively.

What is Insurance Excess?

Insurance excess, sometimes called a deductible, is the amount of money the insured must pay out of their pocket before the insurance company begins to cover a claim. For example, if you have a car insurance policy with an excess of M500 and you submit a claim for M2,000, you would pay the first M500, and the insurer would cover the remaining M1,500.

Types of Excess:

1. Compulsory Excess: This is set by the insurer and is non-negotiable. It reflects the base level of risk that the insurer is willing to cover and is often determined by factors such as the policyholder’s age, type of insurance, and previous claims history.
2. Voluntary Excess: This is an additional amount that the policyholder can choose to pay on top of the compulsory excess. Opting for a higher voluntary excess can lower the premium, making the insurance policy cheaper in the short term, but it increases the amount the policyholder must pay in the event of a claim.

Why is Insurance Excess Necessary?

Insurance excess serves several important functions:

1. Reduces the number of small claims: By requiring policyholders to pay an initial amount, insurers avoid handling numerous small claims, which are often administratively costly. This helps keep the overall costs down for the insurer and the insured.
2. Encourages responsible behaviour: Knowing that they will have to pay an excess can make policyholders more cautious and responsible, thereby reducing the likelihood of making claims. For instance, a driver might be more careful on the road if they know they have a significant excess to pay in case of an accident.
3. Risk sharing: Excess acts as a form of risk-sharing between the insurer and the insured. It ensures that policyholders retain some financial responsibility for their claims, aligning their interests with those of the insurer. This shared risk can also help keep premiums more affordable for everyone.
4. Premium adjustment: Offering the option of a voluntary excess allows policyholders to tailor their insurance policies to their financial situations. By opting for a higher excess, they can lower their premiums, which can be particularly beneficial for those who are confident in their risk management or who have the financial cushion to cover higher excess amounts.

How Excess Impacts Policyholders

The level of excess has a direct impact on both the cost of the premium and the potential out-of-pocket expense in the event of a claim. Here are a few scenarios illustrating this relationship:

1. Low excess, high premium: A policy with a low excess will typically have a higher premium. This is because the insurer is taking on more risk and expects to cover more claim amounts. This option might be suitable for those who prefer the certainty of lower out-of-pocket expenses if they need to make a claim.
2. High excess, low premium: A higher excess results in a lower premium. This is ideal for policyholders who want to reduce their insurance costs and are willing to take on more risk. It’s a trade-off that can make financial sense for those who rarely make claims or those who have the means to cover the excess if necessary.

Choosing the Right Excess

Selecting the right level of excess requires balancing risk tolerance and financial capacity. Here are some considerations:

1. Assess financial stability: Ensure that you can comfortably afford to pay the excess in the event of a claim. A high voluntary excess may reduce your premium, but it’s only beneficial if you can cover the higher out-of-pocket costs without financial strain.
2. Evaluate risk: Consider the likelihood of making a claim. For example, a new, cautious driver might choose a higher excess to lower premiums, while someone with a history of frequent claims might opt for a lower excess to minimise their out-of-pocket expenses.
3. Review policy details: Different types of insurance policies may have different structures for excess. It’s crucial to understand how the excess applies to each type of policy you hold and to choose accordingly.
4. Consult with an insurance broker: If unsure, seek advice from an insurance broker or advisor who can help you understand the implications of various excess levels and assist in choosing the best option based on your circumstances.

Conclusion

Insurance excess is a fundamental aspect of many insurance policies, playing a vital role in balancing the interests of insurers and policyholders. It helps manage risk, control premiums, and promote responsible behaviour. Understanding how excess works and carefully selecting the right level for your needs, you can optimise your insurance coverage and ensure that it aligns with your financial strategy and risk profile.

Contact Thaba Bosiu Risk Solutions

By working closely with an experienced insurance broker like Thaba Bosiu Risk Solutions you need not worry about confusing insurance terminology. We explain insurance and insurance terms in simple language making it easier for clients to understand.