How does umbrella insurance work?

Umbrella insurance is excess insurance intended to cover you if a claim exceeds your primary insurance limits. In this article, we walk through how umbrella insurance works and a few examples to illustrate its importance. By the end of our article, you should have an appreciation for umbrella insurance and can decide whether it makes sense for you to purchase it!

How does umbrella insurance work?

Appropriately named, umbrella insurance is an “umbrella” because it sits on top of primary insurance coverages – and is designed to supplement these coverages, not replace them. “Primary” coverages are insurance policies designed around a specific risk, such as your car insurance, home insurance, or boat insurance policies. These primary insurance policies are always your first line of defense, and it is only when their limits are exhausted that umbrella insurance kicks in.

The below diagram shows an overview of how umbrella insurance is used with your other insurance policies.

umbrella insurance diagram including other policies

Unlike primary coverages, umbrella insurance is designed to be a broad, high-limit policy so that you don’t have to pay out of pocket for any accidents. Importantly, the limit on your umbrella insurance policy “stacks” on top of your primary coverages. So if your car insurance policy has a $300k limit and your umbrella insurance has a $1M limit then you have $1.3M in total coverage!

How is umbrella insurance different from primary insurance policies?

Umbrella insurance has several key differences from your primary insurance policies. See the below table for a basic description of the differences between umbrella and primary insurance coverage.

Primary Insurance (ex: Car or Home Insurance)Umbrella Insurance
Specific coverage only when you are in your home, car, etcBroad coverage for any accident you cause
Lower limitHigher limit
Covers both your liability and your propertyTypically only covers your liability
More expensive, since it pays out firstLess expensive, since it only pays out when primary coverage is exhausted

Why is umbrella insurance important?

If you get into an accident and your primary insurance isn’t enough to cover the total claim, your umbrella insurance kicks in. Consider the examples shown in our below diagrams. When an umbrella policy is in place, once your car insurance limits are exhausted the umbrella policy kicks in and pays out the remaining losses. Without an umbrella insurance policy, however, you will need to pay out of pocket for any losses beyond your car insurance limits, potentially costing you a significant amount of money!

Car Accident with Umbrella Insurance

In the below example, a driver causes a $500k claim. First, their car insurance policy pays out up to the driver’s $300k limit. Thereafter, the umbrella insurance policy kicks in to cover the remaining claim outstanding. The driver that causes the accident will not pay anything out of pocket!

diagram of car accident with umbrella insurance

Car Accident without Umbrella Insurance

The below example is the same accident that causes a $500k claim. Again, the driver’s car insurance policy first pays out $300k up to the insurance limit. However, this driver does not have an umbrella insurance policy. In this case, the driver needs to pay out the cost that his car insurance doesn’t cover out of pocket!

diagram of car accident without umbrella insurance

Should I buy umbrella insurance?

Umbrella insurance is a great supplement for most people’s insurance needs. Umbrella insurance is also relatively inexpensive, typically costing only $150-300 for $1 million in coverage. The hidden cost of umbrella insurance, however, is the higher coverage limits you’ll need on your car and home insurance policies. If you have already increased your liability insurance coverage, however, umbrella insurance can be a very inexpensive add-on! See our article on when you should buy umbrella insurance for more information on the subject.

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