Saturday, August 08, 2009

The best form of Life Insurance

Let me write something this time, which I wanted to for a long time, but haven’t yet (my apologies for being lazy). It was not that I haven’t tried to promote this, but believe me, it is not very easy to convince people on this (be it friends or family). So here it is, and the topic is Term Insurance.

Before I even start on this, let me tell you (you can treat this as a disclaimer) that I am not a financial expert and nor an insurance agent. I don’t work for any insurance or mutual fund firm.
I was on train from Trivandrum (where I live) to Chennai (where I wanted to attend a workshop on software maintenance). To pass time during the 12 hour journey, I bought a book on money matters (perhaps because I didn’t find any better magazine then) and ever since that time, I have not had any doubts on what is the meaning Term Insurance, why it is important and why it should not be compromised (or mixed or confused with any form of investment).

What is Term Insurance?

  • The one and only “true” form of life insurance
  • Simplest and purest form – the insurer pays the premium for the coverage period and his/ her life is covered for the value of sum assured
  • The most cost effective (read as: “cheapest”) form of life insurance
  • As an added benefit, provides tax benefits under section 80C
Why is Term Insurance so important?

Let us consider a case study: There is a sole bread winner of a small family (let us say, a husband – his family comprising of his wife and child). Whatever be the income of the husband, his family is dependent on him (and his income). Now god forbid, if something happens to him, what will happen to his family? This is a situation where life insurance (especially term insurance) assumes a lot of significance. If the husband was insured, for lets say 5 lakhs, his bereaved family would have received that amount for their immediate livelihood. Will it cover the loss of a human life – the life of a husband? the life of a father? No. Hell No. But what a term insurance will do in this case is - it will definitely cover the loss of financial security due to the loss of that human life. The loss of human life is an unfortunate incident, one in which no body has any control of. But we can make the right choices in our living lives that, in case something happens to our lives, our dear and near are taken care of, at least financially. A term insurance is such an option available to all, where one can ensure such a comfort (not that it means comfort in the literal sense!)

Why isn’t Term Insurance very popular?

One has to blame primarily blame India’s national insurance agencies for this in the first place. The have diluted continuously diluted the meaning of “life insurance” for decades, earning profits by selling endowment and money back policies. When Indian opened up financially, they started selling ULIPs along with the private companies (who can be perhaps forgiven for doing so). The bottom line - if some one wants life insurance, term insurance is the most effective option. If someone wants to sell life insurance, term insurance is the least preferred option (read as: less commission for agents, less profitability for insurance companies)

Car – Life Insurance Analogy

The simplest way to understand term insurance is when one compares term insurance with motor insurance. Let me try to explain this:
If I have a four wheeler (or two wheeler), I am required by law to have a motor insurance (at least a third party insurance). The logic is: if there is an accident, the insurance company will cover for all the losses arising out of that accident (losses for the other vehicle only in case of third party insurance). If the market value (maximum sum assured) of the four wheeler is 3 lakhs, the premium to be paid for comprehensive insurance of the vehicle is around Rs.8000. No one talks about money back or endowment or unit linking here.
The premium for life cover of around 20 lakhs in the case of term insurance is only around Rs.6500 (much much cheaper than car insurance in the above example). The question here is: if you value your car for 3 lakhs (for covering damages to your car), shouldn’t you value your own life for a much higher amount (for covering damages to your life – to benefit your dependent family)?

The truth

Let us accept one fact. In the current scenario, there is gross under selling of term insurance. The so called insurance advisors combine (read as: confuse the customer) life insurance with investment and sell (because of the obvious attractiveness of commission of other insurance products) money back policies, endowment policies and ULIPs. The soft spot: when one is asked, would you like to have money back or lose it, the answer is obviously money back. But the price that one pays for such options is huge.
For example: I have an endowment policy where I pay Rs.9000 for a sum assured of about Rs.1.3 lakhs (I get a portion of this back when the policy matures). I also have a term insurance where I pay Rs.6500 for a sum assured of Rs.20 lakhs!! If I consider a term insurance of Rs.1.3 lakhs, the premium would be peanuts and if invest the remaining in a decent mutual fund, it will easily give me a return higher than that offered by the endowment policy!!
But why is no one aware of this? The reason is simple – the greed of customer fully utilized by commission hungry agents and happily promoted by insurance companies.

How to ensure sufficient life cover?

  1. For life insurance, the total sum assured should be approximately 5 – 8 times the annual salary of the insured
  2. Take a term insurance to cover majority of this and the rest , if required, can be ULIPs, money back policies and endowment policies
  3. Be bothered about what is the sum assured of your insurance policy and NOT just the yearly premium (the agent will surely be bothered about the latter one, as his commission depends on that)
  4. Never trust an insurance advisor/ agent who talks only about tax saving and not talks existing/ sufficient life cover
  5. Always try to keep life insurance separate from investments – both have their own purpose, meaning and benefit – for you as well as for your agent (and both are, and should/ would be very selfish)
Inspiration - Deepak Shenoy, Smart Investor, Outlook Money

Disclaimer: The views posted in this blog are my own and are based purely on my own way of assessments. Readers are  requested to consult with their financial/ insurance advisers before making any investment/ insurance decision, do their own due diligence and validate factual information.


Manish Chauhan said...

Very nice :)

The best one i liked was this ; The best insurance is term insurance for buying and least preferred for selling :)

Over all its a nice article on term insurance . Keep it up .. looking forward to read some more stuff :)


Srikanth said...

Great post, Ganesh. Keep up the good work. My blog too contains about these investment ideas. Do visit them.

April Kielb said...
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