Last month, there was a tragic death of one of the LIC agents in an accident. He was an agent for the last 10 years and was earning good commission. He was aged 40 and is survived by his home maker wife and 2 daughters. Everybody thought, he will have a good insurance cover being a person from the insurance field. On investigation, it was found out that, he was paying Rs. 50,000 premium under endowment & money back policies and the total insurance cover was 10 Lakhs only.
LIC promptly settled the claim amount last week. What the family will do with this 10 Lakhs? They are staying in a rented house and was living only on the commission income.
How much is the adequate insurance for a person?
I was explaining this incident in a training programme 2 days back. Mr. Gupta from the group asked me what you mean by adequate insurance.
I explained it with his example.
If Mr. Gupta dies today, if his family can manage the same standard of living with the insurance claim amount, that is adequate insurance for him. Let me explain more for Mr. Gupta.
On an average, he spends 40,000 per month on the household expenses. His only daughter is aged 10 and is studying in school. His wife is a home maker and aged 35.
How much amount is required to ensure an inflation adjusted payment of 40,000 for the next 45 years to his wife? Assuming a safe investment of money in bank deposit at 8% and an inflation of 6%, the amount required for this monthly payment will be 1.43 Crores. In simple words, if Mr. Gupta insure his life for 1.43 Crore now, his wife will get this amount from the insurance company in case of his unfortunate death. She can invest this amount in any safe investment option and withdraw 40,000 per month for the monthly expenses. She can increase the withdrawal by 6% every year to offset inflation. That means she can withdraw 42,400 from the second year and 44944 from the 3rd year and so on. The amount of 1.43 Crore will last till she is 80 years. (Assuming longevity of 80).
So, the adequate insurance for Mr. Gupta is 1.43 Crore? No, some more factors are to be considered here.
Mr. Gupta is dreaming of sending his daughter for medicine (MBBS and MD) and he expect it will cost around 30 lakhs in today’s cost. He also wants to spend around 20 lakhs for her marriage.
Adding these 2 expenses, the insurance need is increased by another 50 lakhs to 1.93 Crores. What about his liquid assets?
He is having around 5 lakhs as Bank Deposit, 4 lakhs in Mutual funds and around 4 lakhs in his PF account. He is having a Jeevan Anand policy of LIC for 10 Lakhs. The total of all these comes to 23 lakhs. His house is not taken for this calculation, because his family has to stay in the house even in his absence.
After deducting this 23 lakhs from 1.93 Crores, the balance is 1.7 Crore. This is the adequate amount of insurance for Mr. Gupta.
How much is the cost of this 1.7 Crore insurance?
Mr. Gupta told that he is paying around 45,000 for the 10 lakhs policy in LIC and if he has to go for another 1.7 Crore, it will cost him more than 7.5 Lakhs! Yes, if he is going for such savings linked policies, the premium will be on the higher side and is almost not affordable for most. That is why people are compromising for lesser cover within their paying capacity. But in case of death, the amount is not sufficient for even the basic needs.
Term Insurance – the best option for higher insurance cover
In term insurance policy, the insurance amount is payable only in case of death of the policy holder during the term of the policy. It is like a car insurance where the claim is payable only in case of an accident or theft of the car. Otherwise, the premium paid will be of no use. Then why we insure our car? The small amount of premium we pay ensures that if there is any accident or theft, we need not worry about the expenses, it will be taken care by the insurance company! The premium is the cost of this peace of mind.
In term insurance policy, the claim amount is payable only in case of death during the term of the policy. Otherwise, nothing is payable. Because of this, the insurance companies can offer such policies at low premiums.
Online Term policies – the season’s offer
Many private companies are offering term policies which you can buy online. Here there is no agent involved and the resultant cost advantage is passed on to the client by way of very low premium. You can buy these policies and cover your life for adequate cover as calculated above. Mr. Gupta is aged 35 and he can insure his life for 1.7 Crore by paying an annual premium of around 18,000. This is around 1500 per month, which he can afford easily for the huge benefits for his family.
Points to note while buying online term policy
It is always better to select the term of the policy in such a way that it cover you till age 60. Mr. Gupta can go for a 25 year term so that the policy cover will continue till age 60, his retirement age. If you are aged 30, you may opt for 30 year term. There is no need to go for a cover after age 60, because by that time most of your financial goals would have achieved.
Be careful while applying for the online policy. Please read each question carefully and give correct answer. You have to disclose all your health related issues while taking the policy. Habits like drinking/smoking etc. also should be mentioned clearly. You have to inform the details of your existing policies. The honest declaration at this stage is very important in life insurance.
Please nominate your legal heir as the nominee in the policy and inform the nominee about the benefits in the policy.
Are you adequately insured? Otherwise don’t delay it, buy a term policy now. It is the best gift you can give your family in the New Year.