Umbrella Liability Insurance and Your Yearly Insurance Review

Every other risk in this book has a natural ceiling: a house can only be rebuilt once, and a health plan caps your yearly costs. Liability has none. If you cause a crash that leaves someone unable to work, the claim can exceed any limit on your auto policy, and the rest falls on you. This chapter explains how a liability claim reaches your savings, how an umbrella policy stops it, how much coverage to consider, and the yearly review that keeps your whole set of policies working together.

How a liability claim reaches your savings

Liability insurance is built in layers. When you are found responsible for someone's injuries or losses:

1. Your auto or homeowners policy pays first, up to its liability limit, and also pays your legal defense.
2. An umbrella policy, if you have one, pays the next layer, up to its own limit.
3. You pay anything above that.

What you pay can come from more than your bank account. Depending on your state, a court judgment can reach savings, investment accounts, home equity above a state homestead exemption, and a share of future wages through garnishment. Money in employer retirement plans generally has strong federal protection from creditors; protection for IRAs and other assets depends on state law. A household with modest savings but high earnings still has a lot at stake, because the wages are exposed.

How an umbrella policy works

An umbrella policy is extra liability insurance that sits on top of your home and auto policies. It pays only after their limits are used up, which is why it is inexpensive compared with the coverage it adds.

Key features:

• It requires underlying limits. The umbrella insurer will require minimum liability limits on your auto and home policies, and if yours are lower, you pay the difference yourself before the umbrella starts. Ask the umbrella insurer exactly what it requires and set your other policies to match.
• It can be broader than the policies beneath it. Many umbrellas also cover claims such as libel, slander and false arrest, and some extend to rental properties you own or to incidents abroad.
• It usually pays defense costs in addition to the limit.
• It has exclusions. Business and professional activities, damage you cause on purpose, damage to your own property and liability you agreed to in a contract are generally excluded. Professional liability, such as malpractice or errors and omissions, needs its own policy. Some umbrellas exclude certain dogs, watercraft or vehicles unless listed.

Buying the umbrella from the insurer that holds your home and auto policies makes it easier to line up the layers and often earns a multi-policy discount, though a separate insurer can work as long as the limits match.

How much coverage to consider

Umbrella limits come in large round steps set by each insurer. There is no exact formula, but these factors raise the case for more:

• What you could lose: net worth, including home equity, and especially savings that are growing.
• What you will earn: future wages a judgment could garnish.
• Higher-exposure situations: teenage drivers in the household, a pool or trampoline, a dog, rental property, a boat, frequent hosting, volunteering on a board, or a public profile.

The case for an umbrella grows with your balance sheet. A household that has $50,000 invested and adds $1,500 a month, earning 6.0% a year, would hold about $550,196 after 15 years. Depending on where it is held and on your state's law, much of that could be reached by a judgment above your auto and home limits. A common planning approach is to carry total liability coverage (underlying limits plus umbrella) at least equal to your net worth, then add more for the higher-exposure factors above and for high future earnings. Before you shop, add up your net worth: everything you own, including home equity and retirement accounts, minus everything you owe.

Coordinating the whole set of policies

By now each chapter has covered one risk. Together they form a single plan, and gaps tend to appear where one policy ends and another begins. A simple map:

• Medical bills: health insurance, backed by an HSA or cash up to the out-of-pocket maximum (chapter 6).
• Lost income from illness or injury: sick leave and short-term disability, then long-term disability after its elimination period, with cash covering the wait (chapters 3 and 4).
• Death of an earner or caregiver: term life insurance sized by a needs analysis, plus current beneficiaries (chapter 5).
• Damage to home, belongings or car: property coverage at rebuild and replacement cost, with deductibles your cash can cover (chapter 7).
• Injury or damage you cause to others: auto and home liability, then the umbrella (this chapter).
• Job loss: no insurance; the emergency fund (chapter 3).

When you change one layer, check the layers next to it. Raising a deductible means checking the cash reserve; buying an umbrella means checking the underlying limits; a new job means checking disability, life and health coverage at once.

The yearly review

Policies drift out of date quietly. One sitting a year, ideally just before your employer's open enrollment, keeps them aligned. A checklist:

• Life changes. Marriage, divorce, a birth, a new home or car, a teenage driver, a new business, a large change in income or net worth. Each can change several policies.
• Health. Compare plans for next year; confirm your doctors and prescriptions are still covered; set HSA contributions.
• Disability and life. Has your income outgrown your disability benefit cap or your life coverage? Are beneficiaries current on every policy and account?
• Home and auto. Is the dwelling limit still at rebuild cost? Has the inventory of belongings been updated, and are new valuables scheduled? Do you still need collision and comprehensive on an older car?
• Liability. Do your auto and home limits still meet the umbrella's requirements? Has net worth grown enough to justify a higher umbrella limit?
• Price. Every two or three years, get quotes for the same coverage from other insurers.
• Access. Does someone you trust know where the policies are and whom to call?