Risk Management and Insurance

Insurance allows a large number of people who share a similar risk to pool their risks. For insurance to be viable, there needs to be a large group with similar risks, and it must be impossible or very difficult for them to determine in advance which particular individuals will have losses and when they might occur. Legally, insurance can be provided only when there is insurable interest and a legitimate purpose for the insurance. For example, it is reasonable to sell life insurance to people who have an economic loss if the person insured dies, but not reasonable to allow a person to purchase life insurance on strangers. That would be gambling, and there is no insurable interest. In addition to needing a large pool of people, there must be an insurance organization willing to provide and market the product, and a large enough marketplace so that the product is financially viable. Insurance is regulated in every state, and insurance arrangements must comply with the regulations.

Life insurance. There are a wide variety of different types of life insurance policies available. These policies can be used to provide death benefits upon the loss of a spouse, and many of them can also be used to help accumulate retirement assets and to address other risks. Some policies have provisions that allow the benefits to be paid out early in the event of severe disablement, so that they can be used to help pay for long-term care. Inflation should be considered in determining the amount of life insurance needed.

Health (medical) insurance. Health insurance covers both expected and unexpected health care costs. Depending on policy design, all costs may not be covered, and premiums and benefits caps may or may not increase with inflation. Medicare pays for about half of the total health care needs of the elderly. Some employers offer supplemental coverage for retirees, but others do not. A premium may be required for employer-sponsored coverage. If there is no employer coverage, then there are two different strategies for buying insurance to add to what Medicare covers. Medicare supplements work in partnership with traditional Medicare and cover some of what Medicare does not cover. Many do not cover prescription drugs, and those that do offer only limited coverage. Federal law specifies eight different benefit designs that can be offered as Medicare supplements.

Another alternative for Medicare-eligible persons is a Medicare+Choice plan. Under these plans, the federal government pays a flat amount per covered person to the plan, and a total benefit package is offered by the plan. The plan is chosen instead of traditional care. These plans differ in whether they charge premiums in addition to the payment by Medicare, and in what benefits are offered. Different plans are available by geographic area, and enrollees are limited to the use of contracted physicians and hospitals. Some of these plans offer prescription drug coverage, but others do not. There are generally limits on what is offered, so plans need to be analyzed carefully. Depending on the geographic area, what is available will vary, and it may be quite expensive. Purchasing coverage can be difficult for those in poor health, and many states have high-risk pools available for covering people who have difficulty purchasing coverage as an individual.

Long-term care insurance. Long-term care insurance provides for part of the cost of extra care resulting from frailty. It does not provide coverage for the less severely disabled, and it pays up to a specific limit, which may be less than the total cost of care. Some people may seem to be quite disabled and still not qualify for benefits. Inflation of these costs may be covered, depending on the policy design. Long-term care insurance can be purchased to cover an individual and spouse, and also parents, if they are living and insurable.

Annuities. Annuities provide insurance against the risk of outliving assets. They also provide coverage of investment risks, as the insurance company handles investments. They can be inflation adjusted, but most are not. A reverse mortgage is a special type of annuity that enables a person to borrow against the equity value in a home, receiving periodic payments which are repaid upon the death of the person or sale of the home.