You have decided to buy a life insurance policy. Kudos. But how much coverage are you going to opt for? What policy period are you looking at? We are here to help.
First and foremost, avoid the temptation to go for the savings-linked insurance policies in which you get the maturity benefit if you survive the policy period. Such policies are expensive and do not give you enough cover that your family would need if you are not around.
Always go for a term insurance plan which gives you substantial coverage at a low premium. Yes, you won’t get anything if you survive the policy period, but life insurance is for unfortunate events. You should focus more on the coverage amount over the maturity benefit.
Once you have decided to go for the term plan, here is how to figure out the coverage amount you need:
Human life value
You need to calculate the present value of your future life goals such as household expenses, children’s education, their wedding and spouse fund, etc. If you have a loan running, you need to take that into account as well. The present value of all such requirements is your human life value. This is the amount you require as a life cover.
Income replacement method
This is quite simple to calculate. Compute the present value of your monthly income (adjusted for yearly growth in come) for the years left to retirement. This is the coverage you need. The amount should be enough that if you put in an FD or a debt fund, the monthly interest is somewhat equal to your monthly pay.
Choosing policy period
What policy period to opt for, you ask? People go for 70 or 80 years or even more thinking if they have paid premium for such a long time, why not pay until life expectancy! But this is the wrong approach. “Insurance is for your family’s needs. You need it only until you have dependents. Once your dependents become self-sufficient, you don’t need it. Ideally, one should take the insurance cover only until 60 years of age, that is, the retirement age,” says Rajat Kumar Agarwal, President - Wealth and Risk Management, Achintya Insurance Brokers.
Nishant Batra, Co-founder and Chief Goal Planner, Holistic Prime Wealth shares the same thoughts. “One should opt for a policy term which coincides with achieving financial independence. In no case should it exceed the retirement age or planned retirement age,” says Batra.
Moreover, there is substantial premium differential between policies until 60 and 70 years of age. For example, if you are a 30-year-old male, you will be paying ₹13,683 annual premium if the policy period is up to 60 years of age and ₹17,495 in case of 70 years of age (for a policy cover of ₹1 crore). The premium differential comes in at ₹3,812.
“This differential amount can be invested in mutual funds for you to leave behind an inheritance for your family. At the rate of 12% per annum, one can collect over ₹32 lakh until 70 years of age. If you are lucky enough to get 16 per cent, it would be equal to the sum assured of ₹1 crore,” Agarwal adds.
Types of payment options
There are multiple payment options. For example, SBI Life Insurance’s term plan eShield Next offers regular payment option (annual premium up to policy duration), single payment option (one-time bulk payment) and limited payment option for a certain time period.
- Age 30 years (male)
- Sum Assured 1 crore
- Policy name SBI Life e-Shield Next
|Insurance upto age||Single premium policy||Regular policy||Limited payment term of 15 years|
Source: Achintya Insurance Brokers
If you have opted for a policy period up to 60 years of age being a 30-year-old male, you will be paying ₹13,683 annual premium in regular mode, ₹21,288 in limited payment mode for 15 years and ₹2,33,355 one-time payment in single premium payment mode.
“One should always opt for regular premium payment mode in term insurance. It has been observed that present value of cash flows is lowest in regular premium as compared to present value of limited pay options. Paying a single premium is nothing less than blunder,” cautions Nishant.
Insurance is a need that serves you in an emergency. It is not an investment avenue to plan your financial goals. Keep this in mind next time you purchase an insurance product.
Aprajita Sharma is a freelance journalist and a certified financial planner. She can be reached at @apri_sharma on Twitter and LinkedIn.