Life insurance is certainly one of the most important the different parts of any individual's financial plan. However there is large amount of misunderstanding about life insurance, mainly because of the way life insurance products have already been sold through the years in India. We've discussed some common mistakes insurance buyers should avoid when buying insurance policies.
1. Underestimating insurance requirement: Many life insurance buyers choose their insurance covers or sum assured, based on the plans their agents want to offer and simply how much premium they could afford. This a wrong approach. Your insurance requirement is a function of one's financial situation, and has nothing do using what items are available. Many insurance buyers use thumb rules like 10 times annual income for cover. Some financial advisers say that a cover of 10 times your annual income is adequate because it provides your family 10 years worth of income, when you are gone. But this is not always correct. Suppose, you've 20 year mortgage or home loan. How will your family pay the EMIs after 10 years, when all the loan is still outstanding? Suppose you've very young children. Your loved ones will come to an end of income, when your kids need it the absolute most, e.g. for their higher education. Insurance buyers need to consider several factors in deciding simply how much insurance cover is adequate for them.
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· Repayment of the entire outstanding debt (e.g. home loan, car loan etc.) of the policy holder
· After debt repayment, the cover or sum assured needs to have surplus funds to generate enough monthly income to cover all of the living expenses of the dependents of the policy holder, factoring in inflation
· After debt repayment and generating monthly income, the sum assured should also be adequate to meet up future obligations of the policy holder, like children's education, marriage etc.
2. Choosing the least expensive policy: Many insurance buyers like to get policies that are cheaper. This really is another serious mistake. An inexpensive policy is not any good, if the insurance company for whatever reason or another cannot fulfil the claim in case of an untimely death. Even if the insurer fulfils the claim, if it takes a very long time to fulfil the claim it is unquestionably not a desirable situation for category of the insured to be in. You ought to look at metrics like Claims Settlement Ratio and Duration wise settlement of death claims of different life insurance companies, to pick an insurer, which will honour its obligation in fulfilling your claim in a timely manner, should such an unlucky situation arise. Data on these metrics for all the insurance companies in India is available in the IRDA annual report (on the IRDA website). You should also check claim settlement reviews online and only then choose a company that has a good track record of settling claims.
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3. Treating life insurance being an investment and buying the incorrect plan: The normal misconception about life insurance is that, it is also as a good investment or retirement planning solution. This misconception is largely due with a insurance agents who like to offer expensive policies to earn high commissions. In the event that you compare returns from life insurance to other investment options, it really doesn't seem sensible being an investment. If you are a young investor with quite a while horizon, equity is the better wealth creation instrument. Over a 20 year time horizon, investment in equity funds through SIP can lead to a corpus that's at the least three or four times the maturity level of life insurance plan with a 20 year term, with the same investment. Life insurance should been regarded as protection for your family, in case of an untimely death. Investment should be described as a completely separate consideration. Even though insurance companies sell Unit Linked Insurance Plans (ULIPs) as attractive investment products, on your own evaluation you must separate the insurance component and investment component and pay consideration as to the portion of one's premium actually gets allocated to investments. In early years of a ULIP policy, just a bit goes to purchasing units.
A good financial planner will always advise you to get term insurance plan. A term plan may be the purest kind of insurance and is a straightforward protection policy. The premium of term insurance plans is much significantly less than other types of insurance plans, and it leaves the policy holders with a much bigger investible surplus that they may invest in investment products like mutual funds that provide greater returns in the long term, compared to endowment or cash back plans. If you are a term insurance coverage holder, under some specific situations, you might choose for other types of insurance (e.g. ULIP, endowment or cash back plans), in addition to your term policy, for the specific financial needs.
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4. Buying insurance for the goal of tax planning: For quite some time agents have inveigled their clients into buying insurance plans to truly save tax under Section 80C of the Income Tax Act. Investors should realize that insurance has become the worst tax saving investment. Return from insurance plans is in the number of 5 - 6%, whereas Public Provident Fund, another 80C investment, gives near 9% risk free and tax free returns. Equity Linked Saving Schemes, another 80C investment, gives greater tax free returns within the long term. Further, returns from insurance plans may not be entirely tax free. If the premiums exceed 20% of sum assured, then compared to that extent the maturity proceeds are taxable. As discussed earlier, the most important thing to see about life insurance is that objective is to offer life cover, to not generate the very best investment return.
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5. Surrendering life insurance coverage or withdrawing from it before maturity: This is a serious mistake and compromises the financial security of your family in case of an unlucky incident. Life Insurance should not be touched until the unfortunate death of the insured occurs. Some policy holders surrender their policy to meet up an urgent financial need, with the hope of shopping for a brand new policy when their financial situation improves. Such policy holders need to keep in mind two things. First, mortality isn't in anyone's control. That is why we buy life insurance in the very first place. Second, life insurance gets very expensive as the insurance buyer gets older. Your financial plan should provide for contingency funds to meet up any unexpected urgent expense or provide liquidity for a time frame in case of an economic distress.
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6. Insurance is a one-time exercise: I'm reminded of a vintage motorcycle advertisement on television, which had the punch line, "Fill it, shut it, forget it" ;.Some insurance buyers have the same philosophy towards life insurance. After they buy adequate cover in a good life insurance plan from a reputed company, they think that their life insurance needs are looked after forever. This is a mistake. Financial situation of insurance buyers change with time. Compare your current income along with your income a decade back. Hasn't your income grown many times? Your lifestyle would likewise have improved significantly. If you purchased a life insurance plan a decade ago based on your own income in the past, the sum assured will not be enough to meet up your family's current lifestyle and needs, in the unfortunate event of one's untimely death. Therefore you should purchase yet another term plan to cover that risk. Life Insurance needs need to be re-evaluated at a regular frequency and any additional sum assured if required, must be bought.
