Understanding Insurance Deductibles and Premiums

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Sometimes insurance terminology can get confusing. After all, before you had insurance, did you even know what a premium or a deductible was?

Deductibles
The Insurance Information Institute explains deductibles well: A deductible is the amount "deducted" from a covered insurance loss. Basically, it's the difference you agree to pay if you make a claim. For instance, let's say your vehicle is damaged in a hailstorm and sustains $5,000 in covered damage. If you have comprehensive coverage and your deductible is $500, you will pay $500 and your insurance company will pay $4,500, which is the remaining amount that is covered under your policy.

The amount of your deductible has an impact on the amount of your premium. The higher your deductible—or the more you're willing to pay for damages out of your own pocket—the lower your premium is likely to be.

Premiums
A premium is the amount you pay for your insurance coverage. The more coverage you have, the higher your premium will likely be. The amount of your premium is solely determined by the likelihood of a claim being made. Factors that determine your premium can include your driving record, your age and what you drive. Two people might seem like similar drivers but have far different premiums because of these things.

Let's look at two drivers, Jim and Keith, who are both 24 years old, both male, and both drive the same kind of 4-door sedan. Jim has had a DUI. Keith has a clean driving record. Both have good credit. Who do you think pays a higher auto insurance premium? Most insurance companies would consider Jim a higher risk due to his DUI; therefore, his premiums are probably higher than Keith's.

That example was for auto insurance, but you'll find a similar pattern with homeowners insurance. Homeowners insurance also bases the amount of your premium on your likelihood of a claim. In fact, homeowners insurance is a lot like real estate—location matters! If you live in an area that could be at risk for wildfires or other natural disasters, your insurance company might have higher rates. In addition, if you have a pool, a trampoline, a wood burning stove or anything else that could put you at higher risk for a claim, your rates might be higher. If you have any of these items, an insurance agent can help you find ways to minimize your risk that might help lower your rates.

We've only scratched the surface of insurance terminology in this article. If you need the definition to any insurance terms, check out our glossary.