A Strong Foundation

When it comes to life insurance, most Indians possess a policy because life insurance still turns out to be the first brush with financial instruments for many. But dig deeper on the quantum of cover and you may find the average sum assured to be a few lakhs at best, with many being grossly under insured. Although everyone knows that death is inevitable and that life insurance is a necessity to provide for financial dependents, people put off taking a policy or take one for the wrong reasons.

With these facts, when you meet Mumbai resident Vishal Paleja, 37, a father of two, you will be surprised to note his clear thinking with life insurance. “I chose a term cover, as my first priority is to secure my family,” he states. Paleja, who runs a garment business, explains that the type and amount of cover was arrived at after a need analysis, factoring in his work profile, responsibilities, goals and cost-benefit study. “There are endowment policies, but they have high premiums for a similar cover and do not meet my needs,” stresses the astute businessman. His protection cover comes at a cost of Rs 18,000 a year.

Welcome to a situation where several Indians are embracing life insurance with a clear view of taking it as a protection than taking it as a savings and investment tool. “Take the cover at young age and when you are in good health, since you may not get the cover at later stage or might have to pay a hefty premium for pre-existing diseases such as hypertension or diabetes etc,” advises Mimi Partha Sarathy, managing director, Sinhasi Consultants. Yes, it does get expensive if you postpone the decision to take a life insurance policy beyond a certain age.

Size and type

Ideally one should take a life policy as soon as they have a financial liability or dependent, or foresee one of these in the immediate future. Next, they should settle for a high value protection policy like a term plan, because this is the purest form of life insurance with no savings or investments component attached to it. As for the quantum of cover, ideally one should take as high a cover that they can afford, because there is no exact monetary value to one’s life—lives are priceless.

One can arrive at the exact insurance cover by using several online tools and calculators using the principle of Human Life Value, income replacement approach or expense replacement methods and more. The thumb rule of multiplying one’s annual income by a factor of 10 or more is easy for a start, but may not be accurate or correct. “Add your outstanding loans when arriving at the amount of life cover needed. Also, factor in the rate of inflation, number of dependents and their financial needs when calculating the amount of cover required,” says Tarun Chugh, MD and CEO, Bajaj Allianz Life Insurance.

Some recommend an even higher cover for those who are married, as the responsibilities are only likely to increase. “A person married with kids should definitely opt for a life insurance cover that is 25-30 times his annual income. Besides term and whole life plans, this is the right age to invest in child plans,” says Pankaj Razdan, MD and CEO, Birla Sun Life Insurance. At this life stage, you need to buy insurance to meet the twin objectives of securing your family financially and wealth creation for the future.

“Purchasing unit-linked insurance policies (ULIP) can also be a good source of wealth creation at an early stage,” says Razdan. The flexibility of life insurance to act as a protection cum savings and investment instrument, besides tax saving option, make them a not-so easy product to zero down on. For the sake of simplicity, keep protection and everything else separate. Your first responsibility is to ensure the financial security of your loved ones in your absence and for that the most cost-effective insurance is a term life insurance policy.

The savings and wealth creation ability of life insurance has a strong influence. “An individual should opt for a plan that has both protection as well as savings elements. This would ensure guaranteed returns at the end of a term as well as an insurance cover,” says Sanjay Tiwari, EVP - Product Management, Exide Life Insurance. Many people take life insurance to accumulate funds, which could be used during their lifetime, with the policy meeting the contingency of providing for in their absence. This approach is not ideal, but is a start, which can be improved upon over time.

Smart choice

Even when opting for a term plan, there are variants that you could choose from – fixed sum, increasing or decreasing cover term plans. You also have the choice with the structuring of the policy benefit—lump sum payout or a monthly income creation for your dependents. Advocates of term plans do recommend taking a very high value cover when offered, but there are some who feel it may be a good idea to split policies.

“You may not be sure that an insurer will pay when it matters for some reason or the other, so diversification helps ensure peace of mind. Secondly, it is not necessary that your requirement will remain the same in future too,” argues Uday Dhoot, CEO, Oyepaisa. com. There is merit in this approach, because your insurance needs may go down over time, especially if you are to take a policy in your mid 30s when you are likely to have several financial commitments, including loan repayments.

Taking a high value term plan is essential at this stage, but a decade later, your financial liabilities would have reduced with the loan repayment and increase in income with time, resulting in an effective reduced insurance need. “If you have a couple of policies with varying sum assured, you have the option to stop one of them, as there is no way you can reduce the cover on an existing policy, even if you want to at a later date,” explains Dhoot.

Apart from the several types of insurance, there are also add-ons that you could include in a policy to expand the scope of risk cover. These add-ons, known as riders, include cover against personal accident, critical illness and waiver of premium. There is value in taking some of them or a combination of these depending on the scope of risk you are seeking to be protected against.

Do not base your insurance cover solely on the cost or the premium. Yes, premiums are linked to your age, state of health, sum assured and tenure of the policy you are looking for, but it should not be a reason to compromise on the cover you take. Life is dynamic and there are risks that you are exposed to today, which you may not be a few years later or may face a completely new set of risks. It is for this reason that life insurance cover should be reviewed every few years and definitely with life stage events like marriage, birth of a child, purchase of a house, additional financial responsibility of parents and so on.

Mistakes to avoid

“Most policyholders opt for a plan which is the cheapest. But, what they need to realise is that a cheap plan may not provide you adequate benefits. So, don’t just look out for low premiums, but for critical features and benefits. Being under-insured is another common mistake made by the policyholders,” feels Chugh. Likewise, choose your policy tenure carefully. Ideally, it should equal the number of years your family is likely to be dependent on your income. “However, you also need to ensure that the premium payment period is equal to the number of years you plan to work and not exceed it,” says Chugh.

Unlike health insurance and personal accident cover that you need till the end of your life, a life policy’s utility could ideally come to an end the moment you have no financial responsibilities. Do not fall prey to tax saving benefits of life insurance policies and continue with them in your retirement. There is an inherent limitation of life insurance policy—they are illiquid. What it means is that, even though the value of your savings and investments in a policy may be high, you cannot redeem the same at any given instance.

Do make it a point to share the details of your life insurance policy with family members, lest they are left unaware of the policy that was taken for them. “Ensure that you keep the policy document in a prominent place and inform family members about it,” suggests Shalabh Saxena, COO, Canara HSBC OBC Life Insurance. For the same reason, make correct disclosures and provide the right information at the time of completing the proposal form when buying a policy, lest a policy claim is rejected on the ground of misinformation or incorrect information.

“Don’t give false information about lifestyle, it can lead to repudiation of claims,” says Razdan. To make life insurance meaningful, always think of it for your financial dependents and not something that you will live to benefit from.

preeti.kulkarni@outlookindia.com