Tuesday, July 06, 2010

Sum Thots on Non-Insurance

Think about this.

Let's say you buy a new car.
Let's say it cost $20,000.
You call your insurance person and tell them you bought such-and-such new car for $20,000.
The insurance person may ask a couple of questions about options or features or horsepower, and how far you drive to work, etc.
The usual insurance questions.
Then the insurance person says that your annual insurance bill will be, say, $500.
You accept this price with the assumption that if you are involved in a collision that the insurance company will pay to fix it, or if your car is damaged badly enough that it is more cost effective to replace the car rather than repair it ("total loss" or "totaled"), the insurance company will pay you enough money to replace it.
Right?
Wrong.
Stay with me.

For the sake of simplicity, lets say that the cost to replace your new car, should it be in a collision and is damaged badly enough that it is more cost effective to replace it rather than repair it, remains the same for the rest of the year - $20,000.
So your insurance rate should remain the same for that first year of ownership.
Still with me?

Think about this -
If, while still on the dealer's lot, you finish signing your papers, jump in your brand new car, start it up and it catches fire.
You jump out of your new car and watch helplessly as it burns to a rusted metal shell on the dealer's lot.
The insurance company will likely pay you $20,000 to replace the car.
Your annual insurance cost: $500.

Let's say you have signed your papers at the car dealer, and pull out of the dealer lot in your brand new car, and are broadsided by a truck 50 feet from the dealer's driveway.
The insurance company will probably pay you $20,000 to replace your new car.
Your annual insurance cost: $500.

One year after you bought your car, you are driving along the street in front of the car dealer where you bought your car and are broadsided by a truck 50 feet from the dealer's driveway. The insurance company will pay you enough to buy a one-year-old version of your wrecked car - about $14,000 (not a new one - $20,000).
Your annual insurance cost: $500.

Five years after you bought your car, you are driving along the street in front of the car dealer where you bought your car and are broadsided by a truck 50 feet from the dealer's driveway. The insurance company will pay you enough to buy a five-year-old version of your wrecked car - about $7,000 (not a new one - $20,000).
Your annual insurance cost: $500.
Huh?
Why is this?

There are two facts about car insurance that are in play here.
1 - Your car insurance only covers the CURRENT value of your car - not replacement value.
2 - Your insurance cost never goes down, even though the value of your car changes.

The replacement values used in the examples above were based on the following figures:
It is a verifiable fact that as soon as you drive a new car off the dealer's lot, it loses about 15-20% of its new value.
At the end of the first year of ownership your new car will have lost from 25% to 35% of its new value.
At the end of five years of ownership, your new car will have lost from 60% to 65% if its new value.

So, based on the above facts about depreciation, if the value of your car goes down every year, why doesn't your (collision) insurance cost go down by the same amount?
In theory, if your insurance cost doesn't go down every year, then your insurance should cover the cost of a NEW car, of equal value to your car when it was new, no matter when you "total" your car.

In fact, you should be able to buy an insurance policy to replace your car AT ANY TIME with a new version of that same car.
The cost of this type of policy would likely increase each year because the cost of a new replacement vehicle typically increases each new model year.
But you would still be able to replace your smashed car with a new one.
But you cannot buy such an insurance policy.
They do not exist.
Why can't you buy such a policy?

The reason, as explained by my insurance agent, is customer fraud.
If some people knew that they could get a new car to replace their current older car, simply by crashing it, they would do it.
So, to reduce the likelihood of customer fraud, the insurance companies do not sell full replacement value vehicle policies.

The same is true of house insurance.
You cannot buy an insurance policy that will fully replace the CURRENT value of your house and its contents.
The example given to me was similar to this:
Say, your current house is 20 years old and currently worth $75,000. The cost to build the identical house today is $100,000.
Some people would burn their current house down in order to cause the insurance company to build a new replacement house worth $100,000.
So the insurance companies will not sell full replacement homeowners policies.
Thus, if your 20 year old house burns down, the insurance company will only pay you $75,000 to "replace" your house.
Guess who gets to pick up the difference?

Enjoy your freedoms while you still can,
You will not have them much longer.

In God we trust....
.

3 comments:

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joven said...

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joven said...

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