Why term life insurance is a good idea

28 August, 2007:

It is called the intelligent person’s insurance cover. However, term plans are yet to make an impression in the minds of insurance seekers in India. Most of them would prefer expensive endowment polices because they would get “something at the end of it.” Never mind, they may be underinsured thanks to the costlier premium. Still, the cheapest and most effective insurance cover fails to enthuse most of them.

“Most people just don’t get it. For them insurance is all about tax breaks and tax-free returns on maturity,” says an insurance advisor with Life Insurance Corporation of India. He says it is difficult to convince customers, as most of them do not like the idea of not getting any money at the end of the term or on maturity. Another reason why term plans remain out of public perception is due to the lower commission rate that insurance agents earn on them.

Are you wondering what is this hullabaloo all about? Well, it is about why people do not separate insurance from investment. For example, if you speak to anybody who has gone for the new fad called unit-linked insurance plans recently, you would have noticed that most of them are worried about the performance of their insurance plans. This is because they have taken more exposure to stocks and the markets were not doing well.

For the latecomers, insurance policies as we know are called endowment plans in insurance parlance. These are plans where you get the insurance amount plus bonus on maturity or death. The premium we pay for this cover has two elements. One part is for the risk or insurance cover and the other is the savings element. Insurance companies invest this saving element and declares the return as bonus every year.

However, term policies are an exception to this rule. They do not have any saving element in it. Therefore, the premium is low. Moreover, you will not get any money on maturity from term plans. There are some plans that may give you the premium back, but they are comparatively expensive.

For example, a regular endowment cover of Rs 1 lakh for 10-year term would call for an annual premium of Rs 10,000. However, you can get Rs 10 lakh cover for 10-year term for an annual premium of a little over Rs 2,000. The catch is the endowment plan would fetch you Rs 1 lakh plus bonus on maturity, whereas you will not get anything from your term plan. However, if you die during the term of the policy, your dependants will get the insurance amount.

Want to take a closer look? If you do not have adequate insurance cover because you cannot afford it, term plans are the answer to your prayers. These plans help you to buy adequate insurance cover, as they are cheap. Remaining underinsured is a crime because on the event of your death your dependants will not have enough to take care of themselves.

You have the freedom to add riders or add-ons to your basic term plan by paying an additional premium. Most common riders are accident death and disability benefit, critical illness cover, waiver of premium in the event of permanent disability, etc. however, you don’t have to add them to your basic cover because they are offered.

Insurance experts believe that some of the riders are not a very smart choice. For example, it is better for you to go for a general medical insurance cover than critical illness cover, where only a few listed diseases are covered. On the other, the waiver of premium benefit is a wise choice because it takes care of your future premiums if you become permanently disabled.

As you can see, term plans are easy to understand. All you have to do is to fix an insurance cover you want to buy and compare premiums of variety of insurers. Remember, premium is the deciding factor with term plans. Get premium rates from a variety of insurers. Note, the premium varies with age. One example given in the pamphlet may mislead you because one company need not be the cheapest for all ages.

Let us take the example of a Rs 10 lakh cover for 10 years. For a 30 year-old, LIC is the cheapest. (See: Cost factor) However, LIC premium is a tad expensive at Rs 2,910 than Kotak Mahindra Old Mutual’s Rs 2,900 in the case of a 35-year-old looking for the same cover.

Now, why is it said that term plans are intelligent choice? That is because by separating insurance from investing you would be earning a bit more on your investments. For example, suppose our 30-year-old protagonist buys a term plan and invests the rest of the money in a diversified equity mutual fund. In ten years, his money will grow faster because insurance companies normally adopt a conservative investment strategy.

Also, mutual funds offer easier redemption facilities. You have the choice of redeeming your investment anytime if you are not happy with the performance of the fund. However, the same is not possible in an insurance policy. Even if you have emergencies, you can only take a loan in an insurance policy. And hopping from one insurer to the other is not a smart idea, as your premium may go up with increasing age.

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How much they cost?

 *A 10-year policy of Rs 10 lakh for a 30-year-old person