BUSI 687 Week 1 DB Forum 1 Example

Discussion Board Forum 1: Thread and Replies

BUSI 687 Insurance & Risk Management, Discussion Board Forum 1 (thread and two replies)

Thread by [Student Name]

The forum topic, the household described and the classmates are composites standing in for the course's own; the textbook and research cited are real, and the requirements follow Liberty's public course guide for BUSI 687.

Thread

The household I chose is a composite of families I know: a couple in their thirties with two young children, one earning $85,000 and the other $40,000 part time. They carry $250 deductibles on both cars, a $500 homeowners deductible, extended warranties on every appliance and phone, and a group life policy worth one year's salary through each employer. Neither has disability coverage, and their auto liability limits are the state minimum. They keep about two months of expenses in savings and describe themselves as well insured, because they rarely pay for a repair out of pocket.

Dalton et al. (2018) describe risk management as a process: identify the exposures, measure each by the frequency and severity of potential losses, choose a treatment and then implement and monitor the plan. Applied to this household, the measurement step produces a clear picture:

The pattern is backward. The family pays to transfer small, frequent losses they could absorb from savings and retains the rare, severe losses that could end their financial security. A long disability for the main earner would cost far more than every appliance they will ever own. At $85,000 a year, a three-year disability would remove more than a quarter of a million dollars of income, while the worst appliance failure might cost $2,000. The family's premiums are flowing toward the losses that matter least.

This mistake is common. Kunreuther and Pauly (2004) asked why people fail to insure against large losses even when coverage is fairly priced, and they argued that people often treat low-probability events as below their threshold of concern and face real costs in searching for and understanding coverage. Small, familiar losses feel more real than rare ones. People insure what they can picture and ignore what they cannot. I saw this in my own family when my father declined long-term disability through his employer to save $30 a month and then missed four months of work after back surgery.

I would recommend three changes. Raise the auto deductibles to $1,000 and drop the warranties, retaining small losses and freeing perhaps $600 a year. Use those savings toward an individual disability policy for the main earner. Raise auto liability limits substantially and add a personal umbrella policy, since a serious at-fault accident is the household's largest uninsured exposure. Finally, schedule a review each year when the policies renew, because the exposures will change as the children grow and as the second earner returns to full-time work.

Reply to Natalie

Natalie, thank you for writing so openly about your own household, a single parent with a teenager who just started driving, did a careful job of identifying exposures. I especially liked your decision to keep a $1,000 homeowners deductible and retain small losses, which follows Dalton et al. (2018) on matching the treatment to the exposure's frequency and severity. One exposure deserves more attention, though: the new driver. Williams (2003) reviewed patterns of risk among teenage drivers and found that crash risk is highest in the first months of licensure and rises with nighttime driving and teenage passengers. That makes your household's liability exposure both more frequent and potentially more severe than it was a year ago. Your thread mentioned that you carry 100/300 liability limits, which may not cover a serious injury claim, and a claim larger than the policy limit would reach your savings and even future wages. Treating this exposure would involve two of the four techniques: reduction, through rules such as no passengers and no driving after dark for the first six months, and transfer, through higher auto limits and an umbrella policy. Reduction lowers the frequency; transfer handles the severity. Using both is what the textbook's process recommends when one exposure is both more likely and more costly than before. Many insurers also offer discounts for completing a driver education course or keeping good grades, which would offset part of the higher premium. Monitoring matters here too: the exposure will shrink as your teenager gains experience, so the restrictions can ease over the first year. Have you looked at what an umbrella policy would cost for your household now that your teenager is listed on the auto policy?

Reply to Greg

Greg, your thread argued that your family can self-insure most risks because you have a large emergency fund, about eight months of expenses. That is a real strength, and it justifies the high deductibles and the decision to skip extended warranties, both of which fit the retention strategy for frequent, low-severity losses that Dalton et al. (2018) describe. I would question one choice, however: retaining the risk of a long-term disability. Eight months of savings would cover a short disability well, but a disability lasting several years would exhaust the fund and then reach your retirement savings. That is a low-frequency, high-severity exposure, exactly the kind the risk management process directs toward transfer. Kunreuther and Pauly (2004) found that people tend to neglect insurance for rare, large losses, partly because the events seem too unlikely to think about, and your reasoning that you are healthy and work at a desk may reflect that tendency. A long-term disability policy with a 180-day elimination period would be relatively inexpensive because your emergency fund already covers the first six months, which lets you combine retention and transfer sensibly. In other words, your savings are not a reason to skip disability coverage; they are a reason to buy it cheaply. The same logic applies to your employer's group policy, if one is offered, since group coverage is often the least expensive way to transfer this risk. Your thread made a strong case for self-reliance, and this would extend it rather than abandon it. Would you consider pricing a policy with a long elimination period, so that your fund handles the first months and insurance handles the rest?

References

Dalton, M. A., Dalton, J. F., & Langdon, T. P. (2018). Insurance planning. Money Education.

Kunreuther, H., & Pauly, M. (2004). Neglecting disaster: Why don't people insure against large losses? Journal of Risk and Uncertainty, 28(1), 5-21. https://doi.org/10.1023/B:RISK.0000009433.25126.87

Williams, A. F. (2003). Teenage drivers: Patterns of risk. Journal of Safety Research, 34(1), 5-15. https://doi.org/10.1016/S0022-4375(02)00075-0