Well, it still protects the ship itself, just not any of the stuff that isnt stock. But yeah, that'd need upgrade insurance.
Its all nothing amounts though, for those that dont know, theres a few expenses within the game (all paid with game credits):
hull, upgrade & cargo insurance, hangar fees, landing fees, ship repairs, ammo (bullets, missiles), crew wages and potentially others ive forgotten, once all of those are added up, thats your running costs.
However its a GAME, in no way are they going to make simply playing the game a burden where you're working just to pay your bills, its a game not real life.
Also, CR has said before that realistically the cost of upgrading your ships components to the top-tier stuff it could take, the really high grade items, could easily cost us 4x more than the ship costs itself.
So if the ship is 1m UEC, those upgrades could cost 4m UEC. So in those circumstances, its easy to believe upgrade insurance could be 4x more expensive than hull insurance (aka 'Xmo Insurance' on ships). Meaning LTI (lifetime hull insurance), amongst a bunch of minor fees, is going to be a saving far smaller than what you'll be paying just for your upgrades.
Its all insignificant fees, its realism fluff, and its all paid for by doing something in-game.