A Blend of insurance and investment, without an exception, tends to be sub-optimal. So, it is better to keep them separate. But why should you go for a term insurance - what is so unique about it? We tell you why...
Term insurance
A term insurance plan has no cash payout at the end of the term. This means if the policy holder were to pass away during the term of the policy, his family will get the sum assured. However, were he to survive he will not get a single rupee.
In short: Term cover is pure life insurance and has no cash or surrender value. If this is, indeed the case, why do I favour term insurance as against a traditional endowment or whole life policy which, at least pays, no matter what, either the sum assured or the maturity value? This then is the subject matter of this week's article.
Why I prefer time insurance?
Insurance is a cost. It is a contract (policy) in which you purchase financial protection or reimbursement against a loss or an unanticipated expense. The price paid to purchase such protection is also called premium in insurance parlance. Such premium is payable, year in year out, till you desire protection from the loss.
Take for instance car insurance. You pay the insurance premium, year in year out, to protect yourself against the financial damage that an accident can cause. If you are a safe driver and manage not to bang your car during the year, the premium paid is wasted -- you don't get anything out of it. And you are perfectly happy to have done so, so long as you and your car are safe. Or take medical insurance. Again, premium is paid to defray any costs of medical emergencies or hospitalisation. However, if you remain fit and healthy the premium paid on buying the medical insurance is lost. But then again, you do not mind this do you? Then why should life insurance be any different? But it is. It always has been.
The reason for this is mainly because life insurance premiums come bundled with the pure premium part combined with the part that gets invested on your behalf. The policy is sold more as an investment where the insurance just comes along. However, know that insurance never comes along; it always has to be paid for. In the case of life insurance, the premium is known as morality premium. Such mortality premium is applicable for all polices, year after year, without any exception, till such time that the life is insured. Even in the case of single premium plans or policies where the premium is payable only for part of the policy term, nonetheless, the mortality premium keeps getting deducted every year from the fund value. So once gain, insurance never comes along, you actually buy it, year after year.
Let's understand this concept with another example. Take the case of a 30-year old person who desires to buy an insurance cover of Rs 10 lakh. Were he to buy an endowment plan, the premium that he would pay is around Rs 39,000 per annum. However, a term plan would just cost Rs 3,800 per annum for the same amount of risk cover of Rs 10 lakh. That is, for a premium of Rs 23,000 per annum, you can either purchase an endowment plan where the sum assured is Rs 6 lakh or on can buy a term plan where the sum assured is Rs 60 lakh. It's your choice!
Of course, brokers earn a far greater commission if they sell you whole life policies than if they sell you term cover. And, the logical sounding argument given against buying a term cover is why opt for the same when you don't get anything back in the end? But, now you know better.
