Raising Deductibles to Save Money on Insurance: Does It Work?

The insurance bill is a common and painful bill that we all face. Whether you're talking about renters insurance, home insurance, or car insurance, the bill is painful because we don't always see the benefit. It's only useful when something goes wrong.

Calling your insurance company and requesting an increase in your deductible – the amount you have to pay before the insurance kicks in – is one of the most common cost-cutting strategies you'll see in cost-cutting articles.

On the surface, this appears to work well. If you raise your deductible, your premiums (the amount you pay each month/quarter/year) will be lower, resulting in lower monthly bills. By making this move, you can save a significant amount of money on your insurance bill.

This week, one of my long-time readers, Jeanne, has been writing to me about insurance. She has considered doing so, but something is persuading her that it is not the best course of action:

• I understand that increasing your deductible will reduce your premiums. But, first and foremost, why do we have insurance? Isn't raising the deductible through the roof counterproductive?

The first thing to remember is that the purpose of insurance is to ensure that you will be able to survive financially in the event of an unforeseen event. We don't have homeowner's insurance because it's entertaining; we have it because it will help us start over with a new home if our current one burns down. Most of us would go bankrupt if we didn't have it. The same is true for renter's insurance – it would be difficult to lose all of your possessions in a fire and have no way of recovering. Again, with automobile insurance – if you total your car without insurance, you may be left with nothing but a car loan.

Obviously, if you have a lot of money, insurance for minor items is much less important. People with large bankrolls do not need to carry full insurance on their vehicles; they only cover the parts that concern them or that are legally required to cover.

Saving money by raising your deductible assumes you have enough cash on hand to cover the deductible in this situation. If you increase your auto deductible from $200 to $1,000, you will see a significant reduction in your bill; however, if something goes wrong with your car, you will require that $1,000. If you don't have that $1,000 in a safe place, you're in big trouble.

The solution is straightforward: if you have a well-funded emergency fund in a savings account somewhere, you can increase your deductibles without concern. A well-stocked emergency fund should include at least a couple of months' worth of living expenses, plus more if you have dependents. Increase your deductibles if you have that kind of money that you can easily access.

Isn't this going to cost me more in the long run? Many people who consider this question whether it will cost them more in the long run. After all, if they have to spend a lot more money on each claim, are they really saving money in the long run?

Every nine years, the average homeowner files an insurance claim. If you raise your deductible on your homeowners' insurance by $1,000, you only need to save about $120 per year in premiums to create a net savings – and you'll most likely save much more than that.

Other types of insurance have similar math. Because claims are so rare, you only need to save a small amount on each insurance payment to cover the additional cost of the deductible.