Buying auto insurance is not the one-step process we'd love it to be. Understanding the many variables involved can save you money and headaches down the road. One key point that is often overlooked or not given enough weight is the deductible. Many people either aren't sure what it is or don't know how high it should be.
Auto Deductibles in 150 Words
For those familiar with health insurance, this should be an easy concept (see All the Ways You Pay: Premiums, Deductibles, Co-pays, and Coinsurance to learn more about it in the health insurance context). An auto deductible is the money you have to pay before your insurance kicks in and lends a hand.
If you're involved in an accident that causes $5,000 worth of damage and your deductible is $500, then you are on the hook for that first $500 before your insurance takes care of the rest. You can look at the $500 deductible as an entry fee before your insurance will kick in and pay the claim (learn The First Steps You Need to Take After Wrecking Your Car).
So, knowing that, it's clear that a low deductible is great for keeping the financial burden off you – right?
Unfortunately, it's not that simple. There are pros and cons to each option. The ones we'll discuss below apply to everyone, not just a specific group. Auto deductibles are all about finding that sweet spot for your specific situation, and then sticking to it.
Going with a High Auto Deductible
Now, this is going to sound a bit strange to those who keep their purse strings tight, but paying a higher deductible might be the best option. That's because a higher deductible leads to lower monthly auto insurance costs. Since the insurer then needs to cover less of the car’s assets if any repairs are needed, they're willing to pass those savings on to you by offering a reduced premium. This means that all of the money saved over the course of the lower-cost insurance contract could potentially go directly to a repair, assuming you have been banking it all.
High auto deductibles are best for drivers who have money stored away in a rainy day fund to take care of emergencies. Since whatever you are saving per month can be wiped out with one accident, depending on those savings to pay other bills is a big gamble. Use it to balance out your finances, but never as a crutch unless you are putting away the money you save each month (see Top 25 Personal Finance Bloggers to Follow on Twitter for advice on saving and managing your earnings).
Keeping It Low
Low deductibles are the most common ones. But when purchasing a brand new car leaves your finances drained, what's the smart choice?
A low deductible will keep you from paying a large amount of money up front to repair your car. But a high deductible will lower the cost per month so you can maintain a brand new car. That could cover gas, upgrades, and general maintenance.
The reason most first-time buyers settle for a low deductible is because it is a long-term option. This is true for single students purchasing a car for school or large families purchasing a minivan.
Mistakes happen on the road, even if it isn't your fault. How much can you realistically pay without disrupting the rest of your life? What would you do if your car was totaled and you had no money to repair it or purchase a new car? Opting for a low deductible is playing the long game, and is considered the safest option for drivers who don't have enough money squirreled away for emergencies.
Having a clear picture of your finances will help you to determine which auto deductible works best for your situation. There are no winners when your car is damaged and needs repair, but being prepared can at least keep you out of financial trouble.