Understanding insurance is no easy task – aside from calculations, terminologies, coverage, policies may come off as complicated to the untrained and the unfamiliar.
One term that confuses many is the word “Deductible”. What is a deductible, and why does it exist?
The Insurance Information Institute (iii.org) defines a deductible as an amount of money a policyholder is “responsible for paying toward an insured loss”. When an unforeseen circumstance occurs, or a disastrous accident happen, this deductible is subtracted – or deducted – from what insurance covers and pays for a claim. Simply put, a deductible is the line of risk shared between the policyholder, and the insurer.
Deductibles can either be an amount already specified in the policy, or it can be certain percentage of the total insurance amount. Whatever the amount is, it’s determined and established depending on the policy – its type, the coverage, and the terms of coverage.
Why do deductibles exist? For two reasons. First, it’s an ample gauge of moral hazards. Sometimes, the insured don’t always act in good faith. In motor car insurance, for example. Without a deductible, a car owner who has car insurance may drive recklessly and unsafely. The insurer is going to cover payment in the event of catastrophic loss, anyway. The existence of a deductible prevents acts such as this. It aligns both the interest of the insurer, and the insured.
The second one is quite connected to the issue on moral hazard. The second one is financial stability. A deductible ensures that the insurer has a way to somehow reduce the severity of claims being received. If a deductible does not exist, then the filing for minor claims will seem to have no end, regardless of their amount. This will be challenging, especially when the insurer will be faced with heavier catastrophic losses from policyholders.
All types of insurance have their own share of deductibles – depending on the coverage, the kind, the risk. When finding a policy, make sure to find one that is best suited to actual needs, and of course, actual budget.
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