– 5 minutes read –
I dedicate the first post on this website to insurance because it forms the foundation of all financial planning. Without it, any plans for getting “rich” (that’s what everyone wants, right?) would be shaky, easily crumbled by any financial burden caused by major events such as illnesses or premature death.
How people often view insurance
One of the most common objections that I hear about insurance is that getting insurance is akin to throwing money down the drain if they never got to use it. To this, my response would usually be of delight, because isn’t it wonderful we never get to use it? Bless everyone with good health and a long life! I know of no one who wants to be struck with catastrophes in order to benefit the payout.
If I don’t want it, does it mean I don’t need it?
“I don’t think I will be sick, I lead a fairly healthy life” is often the reason I hear for not getting insured. This statement focuses on the probability of the sickness happening and not on the consequence.
When considering the risk of an event, both the probability and the consequence of the event needs to be taken into account as risk is a composite of the both of them:
Risk = Probability x Consequence
Even if the probability of event (illness) is low, what would be the consequence (impact) when it happens and is it something that we can afford to bear? Would it wipe out our entire savings and result in a life of hardship for our family?
This simple chart illustrates the types of risk and how we can manage them.
A visit to the GP for common flu is an event that is of high probability but of low consequence (say $50 per doctor visit) but an event like a disability, although low in probability, results in the heavy consequence of potential loss of income and a lifetime of caretaker and medical expenses (amounting to more than a million dollars for survival). The consequence is more than the average person can afford to bear. When it comes to risks in the low probability but high consequence quadrant, we should always transfer the risk to an insurance company because it can be done affordably.
Don’t risk a lot for a little.
Insurance is a cheap risk management tool
As a financial planner, it is important for me to minimize the financial risk that my client has to undertake and insurance serves this purpose affordably.
The above simplified example illustrates the financial burden in the event of a pre-mature death. Without insurance, one would have to build up sufficient reserves to be set aside for the possibility of an event like this happening.
Once sufficiently covered, can the magic of wealth accumulation begin.
Note: Author is an adviser with one of the largest independent financial advisory firm that partners with most of the insurers in Singapore.