Insurance 101 - What is Insurance anyway?

Insurance is an arrangement whereby a company or government agency would provide a guarantee of compensation for specified loss, damage, illness, or death. In return, those that bought the insurance will make a payment to the company call premium periodically. 

For Malaysia, we also have Takaful, the shariah compliant version of insurance. The concept of Takaful insurance is based on the Shariah laws whereby a group of participants mutually agree among themselves to guarantee each other against a defined loss or damage that may inflict upon any of them. These participants will be contributing a tabarru’ or donation into the takaful funds. Takaful emphasizes unity and co-operation among the participants.

What insurance basically means is that you as the policy owner would pay the insurance company a sum of money (called the premium) periodically. In return, the insurance company would undertake to protect you, by compensating you for the damage or loss of what you have insured. The insured items can be your house, car or yourself, in case of illnesses or death. 

Insurance would help you manage your risk. That is the reason it is also called a risk management system, where the risk is transferred to another party.

The 3 most common types of Malaysian insurance are:

• Medical and Health
• General
• Life

1. Medical and Health Insurance

This is the most basic insurance that covers you in case of illness or injury due to an accident or illness. It covers all medical expenses and, if necessary, hospitalization cost which can be quite overwhelming if you don't have enough savings to pay for the bills. This insurance is the most critical insurance that everyone needs.

2. General Insurance

General insurance protects things that are valuable to us. Valuable things such as our homes, our cars, and other possessions are insured under this insurance. Most of us get general insurance for our car or motorcycle when we purchase them for it is mandatory in Malaysia to buy insurance for the vehicle that you own. Also, when we bought a house with a loan from the bank, the bank will require you to purchase a house owner or fire insurance.

3. Life Insurance

Life insurance is a policy that pays out a sum of money (sum insured) to the beneficiaries upon the death (or other circumstances such as critical illness or permanent disability) of the person insured. It would be a good idea for you to consider purchasing life insurance once you have covered the basics of health and motor insurance. Life insurance is highly recommended when you start earning more than what you spend and when you have responsibilities such as spouse or kids.

By knowing the basics of insurance, you will be able to understand your needs better. This will help you in your search for the right policy. If you need more help in buying insurance, contact an insurance agent.

This article is first published in Radical Ringgit.

Who is Dave Ramsey?

In the world of personal finance and money, chances are, you already know who is Dave Ramsey. He is a radio personality turn author and public speaker who uses his own story of financial turmoil that followed by tremendous wealth as a way to teach others about personal finance.

The reason why he is so popular is that he understands the motivation people need to get out of debt. He breakdown the steps into 7 steps that he calls the Baby Steps:

• Step 1: RM 1,000 in an emergency fund.
• Step 2: Pay off all debts except the house by utilizing the "The Debt Snowball" method.
• Step 3: Three to six months of savings in a fully-funded emergency fund.
• Step 4: Invest 15% of your household income for retirement.
• Step 5: College Funding (e.g. SSPN-i)
• Step 6: Pay off your home early.
• Step 7: Build wealth and give.

Step 1: Save RM 1,000 in an Emergency Fund

Dave recommends starting off by focusing all your attention and energy on saving up $1,000 in an account and label it for emergencies only. By doing this he is able to get people to have a “small” win first, which will encourage them to continue the next baby step.

Step 2: Pay Off All Debt Except Your Mortgage

Baby Step 2 is all about psychology. This step is one of the most important ones that show his power of motivation by using something he calls “The Debt Snowball“ method. This method gives people quick wins from the start and keeps people motivated because the majority of people will be staying in this step for several years before they can get rid of their consumer debt altogether. The quick wins will help to keep the people motivated so they can continue to stay the course.

"The Debt Snowball" method is where you would list down all of your debts (except for your mortgage) from smallest to largest. Next, you would make minimum payments on all the debts and put every extra Ringgit towards the smallest debt until it is gone.

After the smallest debt is paid off, you would move on to the next smaller debt on your list. With this second debt, you would add what you were paying on the smallest debt plus the minimum payment you were already paying until it is paid off. Repeat this process with all the debts on the list until you are consumer debt-free.

When you start paying off the debts one by one, you will see that the snowball would start growing. It will cause the brain to release dopamine and serotonin (neurotransmitters) whenever you win something. These neurotransmitters will cause you to want to continue the process more and more.

Baby Step 3: Finish The Emergency Fund With 3 To 6 Months Of Savings

Once you are debt-free, you would have a good stash of ringgit(the money you used to pay off your debts) for other use. On Baby Step 3, this stash of Ringgit is best used to build up your emergency fund of 3 to 6 months of savings. Dave claims that by doing it this way, we're reducing the risk of having to go back into debt if we experience an emergency. If you do not do building up this emergency fund, how would you handle an emergency? Would you pull money from your children's college fund or get into debt again?

Once you have completed this step, you are now able to protect your family from major financial emergencies.

Baby Step 4: Invest 15% Of Income Into Retirement

It's natural for us to want to put our kids ahead of ourselves. But what if you end up without sufficient retirement income because you made the college funding a higher priority? You would have to depend on your kids to take care of you. Won't it be better for you to take care of yourself?

So before you begin doing anything with the excess money left over from paying off the consumer debt and building the emergency fund, Dave suggests that you invest 15% into your retirement accounts. For us Malaysia, this is in addition to our KWSP/EPF. If you are not sure where to invest in, you can look into the articles I have written on Wahed Invest here and here.

Baby Step 5: College Funding For Kids

By the time you reach this step, you should:

• have an emergency fund with 3-6 months of expenses
• be debt-free (except a mortgage)
• be investing at least 15% or more of your gross income

Now that you have your finances in order, it is time for us to put some money into our children's college education. It is a good thing that we actually have SSPN-i and SSPN-i Plus which are tax-advantaged accounts for educational expenses. How much should the amount be is up to you to decide? Tertiary education in public universities would be much cheaper compared to private colleges or universities. It is best to save more.

Baby Step 6: Pay Off Your Home Early

Dave recommends that you take any extra money coming in after you've progressed through the other Baby Steps in order, and throw it towards the mortgage. The faster you pay off that mortgage, the more interest that you would be saving once you have clear it.

Baby Step 7: Build Wealth And Give Generously

Yes, you have finally made it to Baby Step 7. You don't owe anyone anything and now it is time to really start building wealth and help others.  Dave actually wants us to reach this step and become financial independence.

Dave mentions that to build wealth, one should invest in both mutual funds and real estate but before you move in and start buying shares in every single company in Malaysia, read up on investing books or search the internet for what those who are financially independent do with their money.

Never forget about giving. The meaning here is to give to help others.

This post if first published in Radical Ringgit.

The American and the Fisherman

I have listened to this story many times and I would love to capture the lesson that I got from it. Here is the story first.

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An American businessman was standing at the pier of a small coastal Malaysian village when a small boat with just one fisherman docked. Inside the small boat were several large Asian seabass. The American complimented the Malaysian on the quality of his fish.

“How long did it take you to catch them?” The American asked.

“Only a little while.” The Malaysian replied.

“Why don’t you stay out longer and catch more fish?” The American then asked.

“I have enough to support my family’s immediate needs.” The Malaysian said.

“But,” The American then asked, “What do you do with the rest of your time?”

The Mexican fisherman said, “I sleep late, fish a little, play with my children, take a short nap with my wife, stroll into the village each evening where I sip teh tarik and play guitar with my friends. I have a full and busy life, sir.”

The American scoffed, “I am a Harvard MBA and could help you. You should spend more time fishing and with the proceeds, you could buy a bigger boat, and with the proceeds from the bigger boat you could buy several boats, and eventually, you would have a fleet of fishing boats.”

“Instead of selling your catch to a middleman you would sell directly to the consumers, eventually opening your own can factory. You would control the product, processing, and distribution. You would need to leave this small coastal fishing village and move to Kuala Lumpur where you will run your expanding enterprise.”

The Malaysian fisherman asked, “But sir, how long will this all take?”

To which the American replied, “15-20 years.”

“But what then, sir?”

The American laughed and said, “That’s the best part. When the time is right you would announce an IPO and sell your company stock to the public and become very rich, you would make millions.”

“Millions, sir? Then what?”

The American said slowly, “Then you would retire. Move to a small coastal fishing village where you would sleep late, fish a little, play with your kids, take a short nap with your wife, stroll to the village in the evenings where you could sip teh tarik and play your guitar with your friends…”

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I know that you may have read a slightly different version of this story but the lesson is still there.

Money, while it is important, is not everything. There are many things that are more important than money. For me, the most important thing in my life would be my family and I would rather spend more time with them. 

How about you? What is most important for you?

This post is first published at Radical Ringgit.