This article will detail various things you should know while buying Term Insurance. We will also clear misconceptions related to Term Insurance and list the best insurance providers from whom you should buy Term Insurance.
Let us start with a simple quiz. Please answer the below questions in Yes/No.
- Term Insurance is a must-have for everyone
- It is better to buy term insurance as early as possible
- We should take Term Insurance from company with best Claim Settlement Ratio
- Taking one time Term Insurance 10x times my salary will be sufficient
- It is better to make one-time premium payment as it is cheaper
- It is beneficial to take Term Insurance until 100 years or more age so that we get the money
- Buy Term Insurance which gives money back on survival
So how did you perform? If you have answered Yes to any of the questions, then you have failed the quiz my friend. You have fallen prey to different misconception around Term Insurance which are prevalent in the market.
Read this article to get clarity and find out the truth on Term Insurance.
1. What is Term Insurance
In simple language, Term Insurance is a contract where the insurance company will pay money to your family if you die within the contract period.
The money you pay to make this contract is called the premium and the money your family will receive is called the Sum Assured.
When you buy Term insurance, you choose Sum Assured and the duration for which contract has to be made. You also specify how frequently you want to pay your premium (monthly, quarterly, half yearly, annually, till specific age, one time etc.). Based on these and few other factors, your total premium is calculated and will be fixed for the entire duration.
For example, I can buy a term insurance for sum assured of 2 Crore, duration of 50 years and payment frequency as Annual Payment. Assuming my annual premium comes to 15,000/-. That means I have to pay 15,000/- amount every year to insurance company. They will in turn pay me 2 Crore if I die within 50 years. However, if I die after 50 years, they will not pay me anything.
2. How is Term Insurance different from various LIC Jeevan policies (endowment policies) or ULIP plans?
Endowment policies or ULIPs give you guaranteed money back if you survive the policy period. So they will give you low Sum Assured at higher premiums. Traditional Term Insurance on the other hand do not return money on survival. Hence they offer higher Sum Assured at much lower premium.
Misconceptions about Term Insurance
3. Misconception #1 – Term Insurance is a must have for everyone
As you now know, Term Insurance is a sort of guaranteed money your family will receive on your death. However, think carefully. Does your family really need this money on your death? Is it worth paying all the annual premiums and getting the money on death if it is of no use?
Let us explore this with a case study:
Case Study #1
Akshay comes from middle class family and has just finished his studies. He is unmarried and has parents both of whom are working in government sector. He has elder siblings who are also working.
Let us look at various scenarios which Akshay will face in his lifetime and decide whether he needs Term Insurance or not.
Based on above scenarios, we see that Term Insurance is not a must-have. Term Insurance are highly beneficial and must have if you have dependents / loans. However if you do not have any dependents / loans and are sure that your family members will be not be financially burdened after your death, then you don’t need Term Insurance.
Take Term Insurance at various stages of life depending on the needs. As soon as the need is over, close Term Insurance
4. Misconception #2 => It is better to buy term insurance as early as possible
Let us explore this with another case study.
Case Study #2
Himanshu has just started working and has taken Term Insurance at various stages of life (as showed in Image #2 below).
Note – The figures shown in all the tables below are real premium amount for non-smoker/non tobacco consumer as shown on Policy Bazaar.
Learning from our misconception#1, Himanshu has taken Term Insurance policies at various stages of life and discontinued them when no longer needed.
Shreyas on other hand took Term Insurance only from age of 31. As shown in Image #3, his insurance cover from 31 years is same but the annual premium amount is higher than Himanshu due to late start.
However, observe that even though Shreyas pays high premium every year, the total premium he pays across his lifetime is less than what Himanshu pays. Himanshu has paid total of 7.76 Lakh while Shreyas has paid 7.51 Lakh.
It is not always beneficial to get term insurance early and pay less premium. You may end up paying higher total premium across lifetime.
At the same time, it is also not advisable to postpone purchasing Term Insurance till late age. Look at Image #4 to know what happens if Shreyas starts from 33 years instead of 31 years – he ends up paying seven thousand more!
Another thing you should remember is that your premium will increase significantly if you encounter any health issues while not having Term Insurance. So plan accordingly to decide when you want to take Term Insurance.
Start policy when you need it. No point starting it earlier. At the same time, do not delay for long as health issues may jack up premium price significantly later on. Try buying the insurance at least by 30 years age keeping future liabilities in mind.
5. Misconception #3 => We should take Term Insurance from company with best Claim Settlement Ratio
Many people will suggest you to take Term Insurance of company which offers best Claim Settlement Ratio (CSR). I disagree with them.
Insurance Regulator (IRDA) has made it mandatory that NO policy older than 3 years can be rejected. Based on this, CSR has now become irrelevant. If death happens after 3 years, payment will have to be given by all companies. And if death happens within 3 years, all insurance companies will do thorough investigation. Only if everything is natural and all facts are given will they approve payment.
While CSR is an important factor in deciding, it should not be the ONLY factor to decide which policy should be taken. Insurance companies with higher CSR charge very high premiums due to the demand of their policies in market. With IRDA rule applicable, your family will surely get paid if you have been honest. So save money and choose policy with decent CSR and low premium cost.
Don’t worry too much about CSR. Just pick any one insurance provider from Top 10 or top 15 CSRs and then compare on the prices. If you are not hiding any details in your application form and answering everything truthfully, you don’t have to worry about CSR.
For your convenience, I am pasting list of companies with CSR > 95% in 2018-19 (along with their CSR in 2017-18). Compare their prices and take lowest premium policy 🙂
Providers whose CSR has decreased from last year are highlighted in different color. Observe that for majority of providers, CSR has improved from previous years.
6. Misconception #4 => Taking one time Term Insurance 10x times my salary will be sufficient
Not at all. It might be sufficient today or for the next 5-10 years. But it will not be sufficient if you die after that. This is because many people forget about the salary hikes (per year and also while switching jobs), increasing expenses due to lifestyle and the inflation happening year on year. They do not increase their insurance cover and end up getting very little in the end.
Let us explore this with next case study
Case Study #3
Parul started job at 23 years with a salary of 5 Lakhs per year and purchased term insurance which was 10 times her salary.
For the next 7 years, she got 10% hike in her salary. But she did not increase her insurance cover.
The result is shown in table below. Instead of 10x cover, Parul will end up having a cover just 5 times her salary after 7 years. If you add inflation, then her cover will reduce to 4 times her salary. This is barely sufficient
Your cover will keep reducing every year. So buying one policy of 10x cover is not sufficient.
Recommended strategy is to either buy new insurance policies every few year to keep your cover ratio between 20x to 10x of your annual salary. Or buy policies with increasing Sum Assured.
7. Misconception #5 => It is better to make one-time premium payment as it is cheaper
Not really. Let us review this in our next case study.
Case Study #4
Below are the policy premiums for 37 year old Manish with 2 Cr sum assured. Values are for Aegon Religare for Whole Life (till 100 years)
- One-time payment = 14.91L
- Annual payment till 99 years of age = 35792*62 = 22.19L
- Monthly payment till 99 years of age = 3221*12*62 = 23.96L
- Limited pay till 60 years of age – Annual = 86435*23 = 19.8L
- Limited pay till 60 years of age – Monthly = 7780*12*23 = 21.47L
Note that premium paid for one-time payment is the lowest.
So you might be wondering that it is better to go with One-Time payment which offers low premium. Right? Just wait a minute.
Let us try calculating what happens if we opt for Annual payments and invest the money in FD/Mutual Fund giving 6% interest.
- Cost of 1st year premium = 35,792/-
- Amount saved if we choose annual premium over One Time premium in 1st year = 14.91 L – 35.8K = 14.55L
- Manish puts this 14.55L in FD with 6% interest and gets 16.35 Lakh after 1 year
- 2nd year saving after paying for premium = 16.35 – 35.8K = 15.97 Lakh.
- Manish again puts this 15.97 L in FD with 6% interest. This cycle repeats for 62 years (by when he is 99 years age).
- Now, Manish has paid all his premiums and he has a term insurance of 2 Cr along with savings of 3.24 Cr.
By paying one time to insurance company, Manish’s family would have received only 2 Cr on death. But with Manish paying annually, they will now have 2+3.24 = 5.24 Cr on death.
So in spite of paying higher premium, he has ended up saving lots more 🙂
Hang on. There is more to come
Remember our example of Akshay (from case study #1) where he takes policies based on his needs?
With one-time payment, you will be stuck with policy in case you no longer have any financial dependency. This is avoided via Annual payments where you just stop paying premiums.
Another issue with One-time payment policy is that you will lose out in case death happens in early stage of life. So if a policy is of 62 years and you die within first 5 years, then you lose out approx. 13 Lakh (5 years of 35 K would have cost you about 1.8 Lakh vs the 14.9 Lakh you paid).
It is better to pay premiums annually instead of one time.
Does this mean that you should never go for One-time payment option? Again that is not true. It is useful for people who:
- Do not have steady source of income or whose shelf life is less. For example actors, sports people, freelancers etc. They are not sure how long they will work and hence it makes sense for them to go for one time premium policies.
- Are salaried but worry that they might lose job and won’t be able to find a new job easily.
- Are forgetful in nature and have tendency to forget paying bills/premiums on time. Instead of letting the policy lapse, it is better to pay one time and forget about it.
But if you pay on-time, are salaried and foresee many years of steady salary, then you must opt for Annual payment option.
My recommendation will be to choose Annual payment for limited period (maybe till 60 years age when you retire). This way, you will both save money and avoid burden of paying after retirement 🙂
8. Misconception #6 => It is beneficial to take Term Insurance until 100 years / whole life so that we get the money
Many of us are lured by this. But remember that nothing comes for free. If the company is offering you 100 years cover, it means that it is calculating premium knowing that they will have to pay you. As a result, Insurance company will charge you higher premium to cover their losses.
Case Study #5
Abhishek is Manish’s friend and has purchased same Aegon Religare whole life policy worth 2 Cr.
His premium options are as follows for whole life policy
- Annual payment cover till 85 years of age = 29880*48 = 14.34L
- Annual payment cover till 99 years of age = 35792*62 = 22.19L
As you see, Abhishek will have to pay 50% more for a cover until 99 years.
Further, with advancement in medical science, life expectancy has seen an increasing trend since last many years. From meager 49.7 in 1970-75, it has increased to 68.3 in 2011-15 and to 68.7 in 2012-16. (source – The Hindu ).
That means people are living longer and average age is increasing @ 0.4 every year. At this rate, average age in next 50 years will become somewhere around 88 years by 2062-2066.
So majority of population will live only till age of 88 years. If this is the case, then why pay extra money for 12 more years which will go into pocket of Insurance company? Is it not better to take policy only until 85 or 90 years?
Also, by this age, you will be free of all your financial burdens. So use the saved money elsewhere.
Whole life policies don’t offer any advantage and should be avoided.
Instead take a cover until 80-85 years.
9. Misconception #7 => Buy Term Insurance which gives money back scheme
Insurance companies have recently started coming up with new variant of Term Insurance in which they offer Return of Premium (ROP).
General practice is to give 5% of Sum Assured on reaching retirement age (60 years) and 0.1% of Sum Assured every month until death. After death (by 99 years), balance amount from Sum Assured will be paid
Let us compare this against whole life plan chosen by Abhishek from Case Study # 5
- Whole Life Plan => Annual payment for cover till 99 years of age = 35,792*62 = 22.19 Lakh
- ROP Plan => Annual payment for cover till 99 years of age = 1,34,652 * 23 years = 30.96 Lakh (note that in ROP Plan, premium is paid only till 60 years age. Hence we have taken 60 – 37 = 23 years as premium paying duration)
As you see, premium paid (even if paid till 99 years) for Whole life cover is lower than in Return of Premium policy (even if paid till 23 years only). You save 98.8K (1.34 L – 0.35 L) per year for 23 years which amounts to about 4.68 Cr saving if put in FD/MF giving 6% returns. Out of this, even if Abhishek deducts 35K for next 39 years (as he has to pay policy premium), his balance will still be approx. 4.5 Cr.
Under Return of premium plan, Abhishek can receive payments as follows:
- 10 Lakh (5% of SA) paid at 60 years
- 20,000 per month (0.1% of SA) until 99 years.
- If death happens by 99 years, balance amount is paid
If Abhishek had chosen whole life and had 4.5 Cr, he could have used same logic to get following payments:
- 22.5 Lakh (5% of SA) paid at 60 years
- 45,000 per month (0.1% of SA) until 99 years.
- If death happens by 99 years, balance amount is paid
So see it any way, the return of premium policy will be lot costlier to you.
Return of Premium policies are just plans introduced to lure unsuspecting customers who are not financially savvy. Customers see that money will come back to them and happily take the policy. In reality, they are at loss taking such policy.
Same is the conclusion done by Jago Investor team in this excellent article.
Stay away from Return on Premium Term insurance plans
Now that we have cleared all the misconceptions, let me quickly help you with getting the right Term Insurance.
10. Factors which decide premium to be paid
Following are few factors which affect the final premium you will pay
- Payment frequency
- Current Age and Age till when you need cover
- Habits => Smoker / Consume Tobacco / Consume Alcohol / Drugs etc.
- Past history of accidents/health problems
- Family medical history – whether there are any hereditary diseases like diabetes, BP, heart attack, cancer etc.
- Nature of job
- Your residence and office locality – whether it is in violence prone area
11. What should be remembered while taking policy
- Ensure policy has provisions to waive off the premiums in case you are detected with critical illness / get physically disabled resulting in loss of income
- Do NOT hide anything while filling the form. Anything you omit / lie will give Insurance companies a chance to stop payment. Remember that you will not be around and your family will have to run pillar to post in that case. Spare them this hardship
- Fields like quantity of alcohol consumed – Mention the highest amount you may drink during any night in future. So if you are an occasional drinker but can drink 3 beer bottles at one go, then mention accordingly. If you die in accident while being drunk, this parameter might be cross checked and can result in rejection
- Detail of all past illness/accidents should be mentioned. Else your case will be rejected in case death happens due to these reasons in future
- While taking the policy, insist on getting a Medical test (a physical examination and not just a tele-medical). This will put onus on Insurance provider to find out whether you suffer from disease and they will not be able to reject claim in future on account of existing disease
- If you already have any existing term insurance, ensure that you mention same in application form.
- If you change your name/surname/address in future, ensure the policy is updated.
- Age is one of the critical factors in premium calculation. So if you are planning to buy a new Term Insurance and your birthday is nearby, ensure you purchase the policy before birthday. Else you will have to pay higher premium.
- Do not opt for Extra Riders of any sort. Stick to basic term insurance.
- Remember to factor in inflation to your final amount while deciding the policy amount you need. Worth of money received in future will be far less than what it appears today
- Always mention Nominee in your policy
- Ensure you opt for MWPA (Married Women Property Act) while purchasing your policy. This is helpful if you die while having loans. This will stop lenders from using term insurance amount to recover their loan. Your family will be able to keep the full policy amount to themselves.
- Step up Sum Assured => Companies have introduced new plans where your Sum Assured increases by certain % every few years. While this is good, see whether the % increase is enough to beat inflation and your salary hikes (as discussed in Misconception#4). Also, note that this will lock you to the policy with high premium amount even if your financial needs reduce and want lower SA policy in future
- While suicide is covered under Term Insurance after certain years, death occurring due to risky activities like bungee jumping, sky diving etc. is often not covered. Read policy document clearly to know the inclusions and exclusions
- Premium amount for your policy is constant for the entire duration of policy. It will change only if there are tax rate changes.
12. Where to buy policy from?
You can purchase Term Insurance both online or offline.
Online => Compare the plans on website like Policy Bazaar or Cover Fox . Speak to their agents if you have any doubts/confusion. Once you finalize the policy to buy, you can either buy from Policy Bazaar/Coverfox or buy directly from the Insurance company website. Premium amount will be same. I personally prefer Coverfox.
Offline => you can also buy Term Insurance policy from offline channels like agents, bank branch etc. However, be extra careful in what they sell you. Since commission on Term Insurance is very low, agents normally do not prefer selling it. They will either try pushing Endowment / ULIP plans or Term Insurance with whole life cover / return on premium. Just ensure you know what you need and insist on buying only that.
13. How much of Term Insurance to buy?
If you are buying Term Insurance to cover against loan, your SA should be equal to loan amount. Policy duration should be equal to your loan duration.
If you are buying for a dependent, the thumb rule should be to have total cover of minimum 10 times your annual salary. So you may start with one policy giving cover of 15-20 times your salary. After a few years, when your cover decreases to less than 10 times, buy another policy. Duration should be till the time you have dependent. Once they are no longer dependents, you don’t need Term Insurance policy.
What should be your next steps?
- Identify if you have dependents / financial needs
- If yes, calculate the amount of insurance you need and the duration for which you need
- Login to Coverfox / Policy Bazaar and compare premium of policies with CSR > 95% (use image #5 under misconception #3 section for reference)
- Buy a policy only for the amount and duration you decided in step#2
- It should be a plain Term Insurance policy with payment mode as Regular/Limited till 60 years
Hope this article helps you in buying the right Term Insurance plan suitable for your needs. Please share feedback.
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