Which term plan is for you?

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Publication: The Times Of India Mumbai;Date: Feb 17, 2014;Section: Personal Finance;Page: 18

Which term plan is for you? Life insurance companies are offering several variants of pure protection term plans. Find out which is the best for you

Not many households will feel the pinch if the breadwinners income is cut by 1%. If the income reduces by 10%, some of the expenses, especially discretionary spending, might have to be curbed. If the cut is deeper, say 25-30%, the family will have to reconsider many simple luxuries. Now, imagine what will happen if his income drops by 100%? This is what a family will have to endure if the breadwinner dies. Thankfully, only 1% of your income can ensure that the remaining 99% is available to your family. Low-cost term insurance plans can give you a cover big enough to replace your income if something untoward happens to you. A 30-year-old male can get a cover of 1 crore for 30 years for 8,000-9,000 a year. Term plans are no longer the plain vanilla products they used to be till a few years ago. Insurance companies have crafted innovations that suit various customers and situations. Not all of these innovations are good for the customer. We dissect the variations of the simple term policy to tell you which is the best way to cover your life. Offline term insurance Term plans are straightforward products and you can rarely go wrong while buying one. Even so, you can end up with an unsuitable policy. Heres what you should keep in mind when you go shopping for a term plan. How big is the cover? An inadequate cover certainly defeats the purpose of buying insurance. The sum assured must be large enough to cover the basic expenditure that your family will incur, financial goals such as the education and marriage of children, and other liabilities like loans. How long is the tenure? Insurance companies usually highlight premium rates for 30-year-old buyers for 20-year plans. However, such a plan will end when the persons insurance needs are very high. Dont take a 15-20 year plan that will terminate when you are in your 50s. Buy a cover till the age of 60-65 years. How solid is the company? An insurance policy is a long-term contract, but there are indications that a few insurance companies may not be around for the long term. There is a possibility that loss-making companies may be taken over by larger players. Though Irda will ensure that all policies are honoured by the new owners, its best to choose a company that is doing well and is not likely to shut shop. Online term plan Online term plans have become very popular in the past three years, but many customers harbour grave misconceptions about these policies. Online plans are roughly 30-40% cheaper than their offline cousins (see table), but the low premium rates make people feel that there is a catch in the policy terms and claims might not be honoured. The premium is low because there is no intermediary and the online buyer is perceived as a low-risk customer. Agents try to dissuade online buyers, saying such policies dont get good service from companies. This is not true. The online customer can expect the same quality of service from the insurance company as any other customer. When a claim is processed, there is no differentiation between a policy bought online and one purchased through an agent. Besides, all insurance companies have to comply with the rules laid down by the insurance regulator Irda. When you purchase online, there wont be any agent running after you for the renewal premium. If you are the forgetful sorts and dont pay when the premium is due, your policy can lapse. Companies offer a grace period of 15-30 days for late payment but dont bank on it. Give an ECS mandate to your bank so that the premium automatically gets paid when it is due. Increasing cover A cover of 1 crore may seem sufficient at todays prices, but you also need to factor in the impact of inflation. Even 8% inflation will reduce the value of 1 crore to less than 15 lakh in 25 years. To get around this problem, some insurance companies offer plans where the cover increases every year. The Smart Shield plan from SBI Life has an option where the sum assured increases by 5% every year. However, a 5% rise in the cover may not be enough to beat inflation, especially when consumer price inflation is in double digits. Also, keep in mind that the 5% increase is on the base cover, not on a compounding basis. We found that the regular Smart Shield term plan from SBI Life is a much better option. A 1 crore level term cover will cost you just a tad more than the 50 lakh increasing cover plan charges. The regular level cover plan offers greater coverage at almost the same price.

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Which term plan is for you?

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Single premium plans As the name suggests, single premium policies require a one-time lump-sum payment for the entire tenure of the plan. Since this premium is paid upfront, it is lower than that you will pay for a regular premium plan over the entire term. However, the opportunity cost of the lump-sum payment must also be factored in. If the 2.4 lakh extra charged by the single premium plan is invested in a risk-free option offering 8% return, it will yield 19,350 every year (see graphic). This income can be used to pay the annual premium every year. As our calculation shows, a buyer who opts for a regular payment plan will be able to save a neat sum even after paying the annual premium for the entire tenure of the plan. Some may consider it too morbid, but a single premium policy works out to be costlier in another way. If the buyer dies early (say in the first 10 years), the premium paid for the rest of the 15-20 years goes waste. Instead, a regular premium policy that is renewed every year works out to be more cost-effective. Though they are costlier, single premium policies work in certain circumstances. Many policyholders either change their minds after a few years, miss the due date or cannot spare resources to continue the policy. A single premium policy, where the entire premium for the term has been paid upfront, remains safe. These plans also work for those with irregular income or who tend to blow away their money. Limited payment period The limited premium payment plans are only an extension of the single premium option. Its only that instead of one lump-sum payment at the beginning of the term, the premium payment is staggered over 5-10 years. When a person is young and doesnt have too many responsibilities, he is likely to have a higher investible surplus. However, as he grows older and responsibilities increase, he may not be able to spare enough money. Limited premium payment plans are designed for such people. Buyers of the iRaksha Supreme plan from Tata AIA Life Insurance can opt to pay for 5 or 10 years. Of course, this benefit does not come without a hefty price. As the graphic shows, the premium of the 5-year and 10-year option is significantly higher than that of a regular plan, which requires annual payments for the full term. Such plans will be especially useful for double-income couples, who are planning to start a family in a few years and might switch to a single income after that. Or those who are planning a big-ticket expense like purchasing a house in the next 4-5 years. While such families are comfortably placed right now and can afford a higher premium, they might not be able to find the money to pay the premium in later years when their income shrinks and expenses bloat. Staggered payouts A term insurance plan will pay your nominee a huge sum if something untoward happens to you, but can your spouse or children handle the lump-sum payment? Or will unscrupulous financial advisers and greedy relatives cheat your family of the money? With this in mind, insurance companies have launched term plans that do not pay a lump sum, but stagger the payment over 10-15 years. The Online Term Plan from Max Life Insurance pays the full sum on death like any other term plan, but also gives a monthly payment for the next 10 years. Of course, the premium is higher if you opt for the monthly income compared to a basic term plan. It is even higher if you opt for the monthly payment to increase by 10% every year. Inflation can reduce the purchasing power of the monthly payment. For instance, 40,000 may seem sufficient to manage the household today, but 9% inflation will reduce its purchasing power to about 25,000 in five years. The i-Secure Term Plan from Aviva India pays only 10% of the sum assured on death and the rest is paid as yearly instalments of 6% each over the next 15 years. So, if the cover is 1 crore, the family will get 10 lakh immediately on death and 6 lakh every year for the next 15 years. We found that in real terms, the new plan costs almost the same as the existing plan. Its only that the staggered payments ensure the money is not frittered away but used prudently. This plan is especially useful for a family which will not be able to manage a lump-sum payment, says a spokesperson of Aviva India. With return of premium If you think term plans are a waste of money because they dont return anything, there are plans that return the premium at the end of the term. But dont look at it as insuring your life at no cost. You get the money back without any interest. In 25 years, 8% inflation would reduce the purchasing power of that money. Besides, the premium is much higher compared to a normal plan. The premium of the i-Shield plan is significantly higher than that of the i-Life plan from Aviva. You have to shell out almost 15,000 more every year just to get it all back after 25 years. On the other hand, if you took the regular i-Life plan and invested the difference ( 14,795) in an option that earns 8% annually, you would amass 11.68 lakh in 25 years. Thats more than double of what the i-Shield plan will return to you at the end of the tenure. Dont look at your term plan premium as an investment. Just as you dont get anything back from your house or vehicle insurance policy if there is no claim, the term plan premium is an expense that covers the risk to your life. Instead of buying a term plan that returns your premium, it is better to invest the difference in a mutual fund or bank deposit. Loan protection cover Financial planners advise that you should cover big-ticket loans with an insurance policy. In case something happens to you, your family will not have to sell the house because you are no longer there to pay the EMIs. Home loan protection plans offered by insurance companies are designed to cover loans. The insurance cover is linked to the loan amount and progressively comes down as the outstanding loan is paid off. These are single premium policies where the entire premium is paid upfront. However, these decreasing sum assured plans are not a good idea. A regular term plan for the same amount will work out to be

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cheaper and far more useful. It would continue to cover the borrower even after the home loan has been repaid. The HDFC data shows that the average loan is taken for a period of 16 years, but gets prepaid in 8-9 years. Moreover, if a borrower refinances the loan and moves to another lender, his policy goes waste.

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