Tuesday, June 08, 2010

Common Insurance Mistakes

Here is a short story based on a real life example.

Mr.X passed away two months back after a sudden illness. He was 52 and is survived by his wife, college going daughter and school going son.

Mr.X worked in the Merchant Navy and was always aware of the risky nature of his job. So he was more than happy to take a few insurance policies when approached by relatives/ friends who were insurance agents. He kept all the policy documents with his wife for safe keeping. Being a house wife, he knew she was good at filing papers neatly, and she was the one who would need those anyway, if something happened to him. He had 5 policies in all and his yearly premiums were close to 75,000 - more than sufficient to cover the tax exemption limits along with his PF contributions. His annual salary was around 10 lakhs.

Mrs. X and family is still trying to come in terms with his sudden death. Last week, the children started attending their respective classes and only then Mrs. X realized that she would soon need money for paying fees and other expenses. Mr.X also had taken a home improvement loan of 10 lakhs 2 years back for carrying out renovation work of his ancestral home, where they currently reside. Mrs. X knew that the loan is taken care for the time being as EMIs are getting deducted from his saving account where most his savings were held (he also had some linked FDs). Children education expenses itself would run to around 2 lakhs this year and then she would need to make ends meet for their daily living (which she calculated as 1,20,000 at the minimum) - and that's just for this year. What about next year? And the year after?

Mrs. X was starting to feel worried, when she suddenly remembered the policy file with her. She was not very good in money matters and couldn't make out much about the policy documents. So she went to one of the insurance company herself to start the claim process. To her horror, she soon realised that the total insurance amount would be far less than what she would need in the immediate future. Here is the list of policies taken by Mr.X:
  1. Endowment Policy 1 - Premium 8,000; Sum Assured - 1,25,000
  2. Endowment Policy 2 - Premium 20,000; Sum Assured - 2,50,000
  3. Endowment Policy 3 - Premium 10,000; Sum Assured - 1,35,000
  4. Money Back Policy 1 - Premium 12,000 Sum Assured - 1,00,000
  5. Money Back Plicy 2 - Premium 25,000 Sum Assured - 2,25,000
The total sum assured was 8.35 lakhs.

Daughter's college expenses would come to around 3.5 lakhs in the next 3 years. The son's would soon follow. Mrs. X knew that she will have to take up a job to cover their living expenses. She had no idea if the loan could be completely paid up with the available funds in the savings account and linked FDs. Till the time her children starts earning, Mrs. X was sure that life will be tough for her, as well as her children.

The story ends.

Even though some parts of the story has been dramatized, the example is taken from real life. It points out a few common insurance mistakes one can commit.
  • Insurance is not an investment. Each one is taken for separate purpose and hence should considered separately.
  • Be aware of what is the sum assured. Premium amount should not be the primary decision criteria while taking insurance.
  • Be aware of the policy term. Maturity amount and money backs should not be a decision criteria at all while taking insurance.
  • Make sure you are sufficiently insured - take into consideration your dependent's current and future expenses while deciding on sum assured (not the premium)
  • Never take tax exemption limits as a yard stick for taking insurance.
  • Keep reviewing your insurance needs and adjust accordingly - in case of added liabilities, added dependents, children education expenses, etc.
  • Take term insurance. All other forms of insurance are expensive. (at least cover yourself sufficiently with a term plan, and then opt for other insurance)
  • Try to understand your existing policies and check if it is sufficient. If not, buy a term plan to cover the short fall.
Now for Mr. X, if he had taken a policy at age 40, for an annual premium of less than Rs. 30,000, he could have got an insurance for 50 lakhs.

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. 


Nota said...

Please let me know your contact for advise. Thanks. Gopinath

Ganesh said...

Dear Gopinath,
Thanks for stopping by.
I am not an insurance/ investment advisor and hence will not be in a position to provide any advise.

Hope you understand. In case you have any query, please put in a comment and i can try to provide a response..


ishwara r said...

An informative feed back and an eye opener. But my concern is that there are millions of 'Mr. X's out there, who pay premiums, with out knowing the implications! But how to reach them and who will educate them? Recently I read 'people spend a lot of time to earn money, but do not spare even 1% of that time to properly utilize that money.

Ganesh said...

Dear Ishwara,
Thank you for your thoughtful comments.
I agree, lot of Mr.X's and reaching them is difficult. Even the near and dear ones are difficult to convince when it comes to "insurance" without "returns"!