How Liability Insurance Works

Of course you're a good driver. We all are, aren't we? I'm sure you've never chatted on your cell phone while driving, or ate, or applied make-up, or texted or simply were distracted. But even driving aces can cause a crash, and that's when liability auto insurance is critical. If you cause an auto accident, whether it's a mere fender-bender or a catastrophic crash, your liability insurance will pay for the damage you caused to the other person's car, plus any property you may have wrecked as your cars were bumping around. It will also pay for any injuries the other person received, along with their lost wages and their pain and suffering. If someone died in the accident, your liability insurance will also cover funeral expenses, plus legal bills if you're sued [sources: Progressive Commercial, Allstate]. All in all, pretty important stuff.

Liability auto insurance is considered so important, it's required in every state except New Hampshire. The amount of coverage required varies by state. Insurance companies usually offer coverage in a three-part package, such as 25/50/25. The first number always refers to the coverage for bodily injuries you caused to one person, in thousands; the second number to bodily injuries you caused to all people in the accident; and the third figure to property damage. So purchasing 25/50/25 coverage means your policy would pay up to $25,000 for one person's injuries, up to $50,000 for everyone's injuries added together and up to $25,000 for any property damage [sources: Progressive Commercial, Reed].

It's wise to purchase as much liability insurance as you can afford, because if you happen to cause a serious auto accident, medical bills in particular can be astronomical and wipe out your savings and assets. Take the 25/50/25 coverage mentioned above. That's considered fairly bare-bones coverage; experts recommend $100,000 and $300,000 for bodily injury coverage for one and all people, respectively [source: Reed]. It's easy to see why. If you slammed into a car carrying a family of five, their combined injuries could easily result in medical bills that far exceed your $50,000 limit, not to mention the costs for lost wages, funerals, pain and suffering, and, of course, the nearly-inevitable lawsuit that would result.

As critical as it is to carry adequate liability auto insurance, it's not some magic cure-all. Don't forget that it doesn't cover any damage to your vehicle or property, or any bodily injuries you suffer. It's strictly for damage and injuries to others and their property. That's why most drivers also purchase additional auto insurance coverage such as collision, which does cover damage to your own vehicle, and personal injury protection, or PIP, which covers your own injuries, lost wages and other associated costs.

PIP is required in Delaware, Florida, Hawaii, Kansas, Kentucky, Massachusetts, Michigan, Minnesota, New Jersey, New York, North Dakota, Oregon, Pennsylvania and Utah; in Arkansas and Maryland it's not mandatory, but you have to reject it in writing if you don't want it. If you live in a state where PIP isn't mandatory, remember to check over your health insurance before you purchase PIP (or a similar insurance called medical payments). If you've got great health coverage, you may be able to either skip PIP/medical payments, or just purchase the minimum amount available [source: Reed].

The other caveat when it comes to liability auto insurance is that even if you purchase the most that's available (generally $250,000 per person, $500,000 for all), you can still come up short if you're in a serious accident. That's why it's a good idea to also carry umbrella insurance if you're able to swing it. Also called excess liability insurance, umbrella insurance provides additional general liability coverage to your home, auto and boat. Because of this, it's only available to people who have their homeowners, auto and boat coverage with the same insurer [source: Travelers].

Here's how it works: Let's say you cause a serious auto accident, and the resulting bills are $300,000 more than your auto liability insurance can pay. No worries; simply tap into your umbrella insurance, which covers the rest. (That's how it gets its name, incidentally -- you're supposed to think of this coverage as a giant umbrella opened up over your car, home and boat, shielding them from harm.) Umbrella coverage is generally available in increments of $1 million, up to $5 million.

The bottom line is, nobody really likes to pay for insurance. It's expensive, and you may never get a penny back from what you pay in. But when you start grumbling the next time you read your bill, just remember this: Nobody struck by disaster ever regrets being prepared.

Let's be honest. Insurance is not an exciting topic. And sometimes it gets pretty difficult to understand. But once you grasp the basics -- even on more complicated topics like liability insurance -- it's not that hard. Maybe you'll even admit to yourself it's a pretty important subject. And that you really need to stay on top of it. And that you'll start paying more attention to any notices that come from your insurance company. And that you'll sit down with your spouse/partner to review your coverage every year, instead of saying, "You just deal with it." And ... Ahem. Well. I guess I know what resolutions I'll be working on this year.

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