No matter who you are, life can throw you a curveball. Whether your child’s friend breaks their arm on your swing set or you lose control of your car on a rainy night, accidents happen, and those accidents can be expensive. This is where umbrella insurance can come in.
According to a recent analysis of liability claims published by Sedgwick, an insurance company, the average personal injury suit award was nearly $1.7 million. If you have a homeowners or an auto insurance policy, your insurer may help with a portion of the cost. But if the cost exceeds the limits of your policy, umbrella insurance can cover the gap.
“If a claim is made against you or your company, an umbrella policy all but guarantees that you won’t have to come out of pocket or worry about a potential lien or judgment against your assets,” says Hunter Garnett, a personal injury attorney in Huntsville, Ala.
if you have a significant net worth, this extra protection can make sense. PHOTO: iStockphoto/Buy Side from WSJ Photo Illustration.
Of course, umbrella insurance isn’t for everyone. It’s an added cost, and depending on your assets, you may not need the added protection of an umbrella policy.
Here is what you need to know to decide whether you’d benefit from umbrella coverage.
What is umbrella insurance?
Lawsuits have become a common and expensive issue. The U.S. Chamber of Commerce Institute for Legal Reform reported that total personal liability tort costs—the expenses incurred during litigation and the benefit award paid to victims—grew about twice the rate of inflation in the years between 2016 and 2020, the last date for which figures are available.
In such a litigious society, umbrella insurance can provide peace of mind. It’s an insurance product that kicks in once you reach the maximum liability limit of your auto, boat, homeowners or renters insurance policy. With a policy in force, you aren’t on the hook for the full cost of litigation.
How much do these add-on policies cost? On a typical car or home policy that costs $150 a month, expect to spend an extra $25 to $60, based on information from Insureon, an insurance comparison site.
What is covered by umbrella insurance?
Umbrella insurance provides coverage in three main areas:
- Bodily injury liability: Bodily injury protection comes into play if an incident occurs that causes injuries to another person. It covers the cost of their medical bills and liability claims. Common instances of bodily injury claims include dog bites, injuries resulting from a fall and car accidents.
- Property damage liability: Property damage liability covers costs related to damage caused to another person or business’ property. For example, if you’re in an accident with a person driving a luxury vehicle or you cut down a tree and it falls onto your neighbor’s house, property damage liability coverage can be used to cover some or all of the cost.
- Other personal liability: Car and homeowner policies don’t cover other personal liability claims involving libel, slander or invasion of privacy, but umbrella policies do.
What umbrella insurance doesn’t cover
Although umbrella insurance covers a variety of incidents, it doesn’t cover the following issues:
- Damage to your own home or vehicle: If your home, car or other property is damaged in an accident or severe weather, umbrella insurance won’t help you.
- Punitive damages: Courts award punitive damages when they believe the defendant acted negligently or illegally and caused significant damage. For example, a court may award punitive damages if the driver in a car accident was drunk at the time of the incident and caused severe injuries to another person. Personal umbrella policies usually exclude punitive damages, so you won’t be able to use your policy to cover those costs.
- Business: A personal umbrella policy won’t cover claims related to your business, so you may need to purchase a separate commercial umbrella policy to protect yourself adequately.
How umbrella insurance works
Once litigation reaches the limits of an existing homeowner, renter or auto policy, umbrella insurance protects you against excess losses. Consider this example: You have an auto policy with a $250,000 bodily injury liability limit—the coverage limit most financial planners recommend. You fall asleep at the wheel and seriously injure someone who misses several months of work. A court awards them $1 million in compensation.
Without umbrella insurance, you’d be responsible for the additional $750,000 after reaching your auto policy’s $250,000 maximum on your own. But if you have an umbrella policy, it would go into effect to cover the additional amount.
Thomas Henske, a certified financial planner based in New York, said he saw the benefits firsthand when a wealthy client purchased an umbrella policy. Just a few weeks later, she was involved in a serious car accident with the driver of another vehicle, who happened to be a surgeon. The surgeon’s injuries were significant, to the point where he was unable to perform surgery afterward.
“A lawsuit ensued, and had they not had that excess liability coverage, that would have been a significant dent to their net worth,” Henske says. Umbrella coverage “is so inexpensive for someone in this situation that not having that extra layer of protection would have been disastrous.”
Who needs umbrella insurance?
Now that you know how umbrella insurance works, you may wonder if you need to purchase a policy. Although everyone’s needs differ, there is a general rule of thumb: “If your assets exceed your liability coverage in your auto or homeowners insurance policies, then umbrella insurance would be a good idea,” says Brian Walsh, a certified financial planner with online financial services firm SoFi.
While umbrella insurance can be useful for homeowners, umbrella insurance may still be necessary even if you don’t own your home. As a renter, you may need coverage if you are the parent of a teen driver, own a dog or have saved a substantial amount of money.
By contrast, you may not need umbrella insurance if you’re young and just starting out. If your assets or net worth are well below your liability coverage limit on your auto or homeowners insurance policy, umbrella insurance may not be necessary.
Umbrella insurance FAQs
How do I purchase umbrella insurance?
You must have an existing car, homeowner or renter policy to purchase umbrella coverage. Most companies require you to meet certain coverage requirements on the existing policy—such as $250,000 of liability on auto—before you’re eligible for umbrella coverage.
When you purchase an umbrella policy, it provides protection for all kinds of personal liability, so you only need to purchase one umbrella policy to get added coverage for auto, homeowners or renter claims.
Nick Strain, a certified financial planner with Halbert Hargrove in Long Beach, Calif., says shopping around for auto, homeowners, renters insurance and umbrella insurance at the same time can be a smart idea.
“I would also suggest shopping your policy directly with insurance companies and with an insurance broker that represents multiple insurance companies,” he says. “Brokers can sometimes get you more coverage for less money.”
How much does umbrella insurance cost?
The cost of an umbrella policy depends on several factors, such as your location, the value of your assets and the amount of coverage you have.
Umbrella insurance premiums are on top of what you spend on your existing auto or homeowners coverage. According to data from Insureon, an insurance comparison site, umbrella policies will increase your total insurance premiums by $25 to $60 per month for $1 million of personal liability umbrella coverage.
How much coverage do I need?
When considering how much coverage to buy, calculate your assets, liabilities and potential future assets. As mentioned above, a common thumb to follow is to get a policy equal to your net worth. However, it can be a good idea to purchase a policy with a larger limit if you expect your net worth or income to increase within the next few years.
Henske says many people tend to “set it and forget it” when it comes to insurance, so buying more coverage than you think you need right now can be a good idea. “I typically advise to go above what you think you might need because the cost is so minimal,” he says.
With that approach, you have a built-in buffer if your net worth increases but you forget to increase your coverage limits.
What are the drawbacks to umbrella insurance?
Although umbrella insurance can be a worthwhile investment for many, it does have some drawbacks:
- Not all companies sell umbrella policies: Although many insurers offer umbrella policies, not all sell umbrella coverage. Particularly if you have coverage through a company specializing in nonstandard coverage—insurance for those with poor driving records—you’ll likely have to get a new policy with another insurer before you can get umbrella insurance. For instance, companies like The General, DirectAuto and Embark don’t offer umbrella coverage.
- You may need to pay more for standard insurance: To qualify for umbrella coverage, you may need to raise your standard home or auto policy’s coverage limits to fill any gaps between your current liability limit and the point at which the umbrella policy kicks in. The extra coverage may significantly add to your overall cost. For example, let’s say you have an auto policy with a $100,000 per accident liability limit. You would like to buy an umbrella policy, but it only kicks in for liability costs above $500,000. In addition to buying the new umbrella policy, the insurance company will require you to increase your standard policy so that its liability limit extends up to $500,000—where your umbrella policy kicks in.
- Some companies have low coverage limits: Some companies sell umbrella coverage, but they may have lower coverage maximums than you need. For example, some companies only provide up to $1 million of coverage, so if your assets exceed that amount, you’ll need to switch insurers.
Will umbrella insurance cover claims related to side hustles?
More and more homeowners are making extra money by renting out their homes, backyards and pools on services like Airbnb, SniffSpot or Swimply. However, you should use caution before listing your property; personal liability umbrella policies typically exclude business-related claims. As a result, if a child is hurt while swimming in your pool during a rental session, your claim will be denied.
Those services usually provide a limited amount of liability protection. But if you plan to list your properties on those services regularly, a separate commercial liability policy may be a good idea.
For ride-share drivers, the situation is different. In that case, you’ll need a commercial car policy, which will come with its own liability protection. And if you own a business, you may want to consider a commercial umbrella insurance policy to protect your business from significant liability risks.
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