Is a $1 million Umbrella Liability Policy Enough?

Reader Question:  After meeting with our financial advisor my husband and I, both retired, realized that our investments exceed the current $1 million umbrella policy we have. Your article stated that IRAs are safe “under most circumstances”. We don’t have risky lifestyles except we do own a cabin on a water-ski lake. Our home and lake property are worth about $1.3 million and we have about the same asset amount in IRAs. In your opinion do you feel our $1 million umbrella policy in addition to our homeowners, boat and auto policies are adequate?

Answer: First, for my other readers, allow me to explain what an umbrella policy is.  If you own a home with a mortgage, the mortgage company requires that you have homeowners insurance which typically offers a level of liability coverage to protect you should someone be injured on your property.  If you own a car, the State of Alabama requires that you carry at least a minimal level of liability insurance.  If you have accumulated assets, you’ll want to make sure that you have enough liability coverage to protect those assets should you have a judgment against you in a lawsuit.  This is where an umbrella liability policy comes in.  An umbrella policy has a very large deductible, say $300,000 or $500,000.  To make sure there is no ‘gap’ in your coverage, you must raise the liability coverage on your homeowners and automobile policies to ‘meet’ the deductible on the umbrella policy.  For example, if you purchase a $1 million umbrella policy that has a $300,000 deductible, your property and casualty agent will raise the liability coverage on your homeowners and auto policy to $300,000…meaning you now have total liability coverage of $1,300,000.  So, how much coverage is enough?  The best answer is, unfortunately, “It depends!”  If your lifestyle is filled with fast driving, cocktail parties or you’re in a high profile profession such as a physician; you’ll want a much higher level of coverage.  If, as you say, “We don’t have risky lifestyles,” you may choose a lower level of coverage.  Some advisors recommend having an umbrella policy that roughly equals their net worth.  So if your net worth is $2 million, you’d want a $2 million liability policy.

I say if you’ve accumulated just about any level of assets, you should consider having at least a $1 million umbrella policy.  The good news is that these are inexpensive policies where it’s not unusual for a $1 million policy to have an annual premium of $300 to $500 or less.  And the premium for the next million dollars of coverage is even less expensive.  So it comes down to a judgment call on your part.  Based on your $2.6 million estimated net worth, I’d recommend that you consider an umbrella policy of at least $3 million.  You’ll likely never need it, but if you do, you’ll be very happy you purchased it.  Think of it like fire insurance on your home.  In all likelihood, you’ll pay premiums your whole life and never collect a dime…and that’s a great thing!

Let me add a comment about the security of IRAs in Alabama.  Alabama law is a bit murky about whether an IRA is protected against a legal claim.  There has been at least one case where the IRA was protected and one where it was not.  It appears clear that Roth IRAs are not protected against legal judgments.  There is a group of advisors who are attempting to get legislation passed that would protect IRAs and Roth IRAs in the same manner as ERISA (401k type plans) plans.  If you’d like to help, contact your state representative.