Catastrophic insurance is an insurance policy with an extremely high deductible. According to the Insurance Information Institute website, catastrophic policies are intended to protect the insured party financially against unlikely but severe events beyond his control. Catastrophic property coverage is available to individuals and businesses for rare but devastating events such as floods, wildfires and earthquakes, while individuals can buy insurance against catastrophic illness. Insurance companies buy catastrophic coverage in the reinsurance market to protect their own assets.
Catastrophic health insurance, also known as major medical or high-deductible health plans, was created to help people control health care costs by offering a lower monthly health insurance premium in exchange for a high annual health care deductible, according to the Insurance.com website. With these plans, the policyholder pays all medical expenses out of pocket until his payments reach the amount of the annual deductible. Depending on policy terms, the insurance company covers part or all of the medical expenses above the deductible up to a lifetime maximum benefit, typically $1 million or more. These plans may cover all medical conditions or be limited to specific illnesses.
Link to Savings
Individuals who purchase only catastrophic health insurance are eligible to open tax-exempt health savings accounts, according to the U.S. Treasury website. To be considered catastrophic coverage, a health plan must have a deductible between $1,150 and $5,800 for individuals and between $2,300 and $11,600 for families.
The federal tax code allows individuals to deduct from income up to $3,000 per year in contributions to a health savings account, according to the U.S. Treasury. Families can deduct up to $5,950 in health savings account contributions. The rationale is that people will use their health savings accounts to pay for routine medical care, and the catastrophic insurance for extraordinary medical expenses. Withdrawals to pay medical expenses are tax free.
Natural disasters, such as hurricanes and tornadoes, and man-made disasters, such as the Deepwater Horizon oil rig explosion in 2010 that fouled the Gulf of Mexico, are extraordinary property catastrophes that can deplete an insurance company’s damage coverage reserves. According to the Insurance Information Institute website, property insurance companies set aside money to cover the damage claims expected in the normal course of business. But random disastrous events, such as Hurricane Katrina in 2005, will produce extraordinary and unexpected claims running into billions of dollars that the companies must cover somehow.
Primary insurers, who sell policies to the public, buy reinsurance to protect their bottom lines against possible but statistically unlikely catastrophes. Reinsurance, notes the Insurance Information Institute website, is insurance for insurers. Reinsurance is sold to primary insurers in layers with ever-higher deductibles. Additionally, some states that are particularly prone to certain types of disaster events have set up state reinsurance pools in an effort to keep primary insurers from leaving the state.