Almost all of us have
insurance policies, many of us have actually multiple policies, mostly sold by
someone known to us. But do we really know whether we actually need them and
how much risk cover we are having?
We should keep in mind that
an insurance policy is supposed to protect one against a financial
loss in the event of a casualty or untoward event. In the case of life insurance policies,
such an event is the untimely death of an earning member of the family,
resulting in loss of future income. The best way to buy protection against such
financial loss is to buy an insurance policy for an earning member of
the family such that the risk cover (or sum assured) is as high as possible for
the lowest amount of premium payable.
Most of the policy holders do not know the amount of life insurance cover
they have but they know exactly how much premium they pay each year and also insurance
agents generally push more on investment based insurance products rather than
pure risk cover products. Why is it so, let’s understand it?
1. According to the accounting principles followed by the Insurance Sector,
the premium collected by an insurer is booked as its income, while the risk
covered is the firm’s liability. A pure term plan is a policy that gives the
least income to the insurance company, while creating the highest
liability. Hence, it really does make good business sense for insurance companies
to sell investment-linked insurance policies, to shore up their
income.
2. Since income is the main criterion, insurers fix sales agents target
based on premium collected rather than total risk covered. This leads to the
agents to sell those policies where higher premium can be collected.
3. The seller’s commission is linked to the premium and not the cover. Therefor
pure insurance policies tend to lose out to investment-cum-insurance products
in sales.
4. The Income tax deduction under section 80C is linked to
the premium paid and not the risk cover. Therefore investors also focus more on
the premium amount and how much they will save on tax rather than the risk
cover.
5. The normal human psychology is to get something when we are paying
for it. In pure term insurance policy a policy holder do not get anything if he
survives over the tenure of the policy which makes it unattractive. But we
should compare it with mediclaim or vehicle insurance where we don’t get
anything if there is no claim. In case
of life insurance policy why we always want something. Read my earlier post Mutual Fund +
Term Insurance: Best of both Worlds for to understand that
how term insurance and mutual funds can give much higher returns as compared to
traditional policies.
The most
suitable policy for providing such protection is a pure term plan. Whenever a
person tries to sell an insurance policy, we should ask for a
comparison of features and costs across the various options available. The
first step in buying insurance cover is to calculate one’s need. The
next step is to find which insurance policy would serve the purpose.
As for tax planning, many options besides insurance are
available. If we want to take risk, invest in an equity-linked savings scheme.
If we do not want to take risks, there are longer-term bank fixed deposits,
NSC, PPF, SSY etc. which come under
Section 80C. Certain expenses like: Children’s tuition fees, the principal
repayment part of the home loan EMI, etc. are also eligible for Section 80C
benefits:
We should
always remember: As a life insurance buyer,
our primary need is to get a risk cover. Focus on that. That will save us
from mis-selling, too.
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