To be sure, Covid has created more awareness about the need for adequate protection. There is a distinct shift towards considering life insurance as a tool for financial security, reveals a recent Tata AIA Life Insurance Consumer Confidence Survey. Almost half of the respondents said they need to buy a life insurance policy in the next six months. During the pandemic, 51% of respondents bought life insurance, of which 30% were first-time buyers.
This is good news but there is a long way to go before Indians put in place one of the building blocks of financial well-being. A large majority is still not covered by insurance. Some find no use for it until a certain age. Even those who are insured are not adequately covered. Several of those insured also make wrong choices regarding policy term, type of policy, payout options, etc. Some do not disclose critical information at the time of buying the policy- leaving claims open to rejection by the insurer. The worst scenario is when family members are not even aware of the existence of the policy. In this week’s cover story, we look at some common mistakes people commit when buying life insurance.
Leaving it for later
People defer the decision to buy life cover for a variety of reasons. Young people aged 30-35 years don’t feel the need to spend money for a cover with no perceived risk to life. The pandemic should dispel such misplaced notions. “The longer you remain unprotected, your family remains vulnerable,” says Rohit Shah, CEO, Getting You Rich. Besides, you are not saving any money if you defer the decision to later years. Premiums are low for those who are young, so it makes sense to lock in when rates are low. For the older, the premiums tend to be much higher (see table.
Also, term cover premiums have risen in recent years and could go up further this year because reinsurers have hiked their premium rates following a sharp increase in death claims after Covid.
Not buying a term plan
The Tata AIA Life Insurance survey has observed that unlike the pre-Covid times, people are more inclined to buy term plans. About 47% said their views towards term plans have changed. Yet, traditional plans continue to be the preferred choice. Another survey by Max Life shows that one-third of non-term plan owners across urban India are unaware of term plans.
A regular term plan pays a fixed sum to the beneficiary if the insured person dies before the policy term. But if he survives, there is no maturity benefit. This aspect seems to act as a deterrent. Most life insurance policies are bought as insurance-cum-investment plans. They have hefty premiums but offer very low cover. The returns are also very low, compared to other investment avenues. Hemant Rustagi, CEO, Wiseinvest Advisors, insists mixing insurance and saving is a bad proposition. “You will not be able to do proper justice to either aspect,” he warns.
Hiding critical information
Many claimants are finding out the hard way that insurers reject claims if they find that the policyholder did not divulge crucial information at the time of buying the policy. These can include any pre-existing medical condition, family medical history, risky lifestyle choices like smoking and engaging in hazardous occupations. Hiding such information or furnishing fraudulent documents at the time of purchase can get the claim rejected. A claim may even be rejected if the cause of death is unrelated to the missing piece of information.
Insurers have only grown more vigilant and strict since the onset of the pandemic. Amol Joshi, Founder, PlanRupee Investment Services, asserts, “Be truthful in your declarations at the outset to leave little chance for a claim rejection later.” He also suggests buyers must not skip the medical checkup or avoid buying a policy that insists on one. A solace for policy holders is that life insurance claims cannot be rejected by the insurer on any grounds after the policy completes three years.
Opting for a long policy term
Some insurers offer plans for terms extending up to the age of 100 years and beyond. These plans essentially aim to secure the family for the entire life of the insured. In other words, payout from the policy is assured as likelihood of surviving this long is minimal. This seems to address concerns most people have about life insurance-surviving the policy term and not getting any payout at the end. It is also touted as a sure fire way of ‘leaving behind a legacy’ for the family members.
Experts advise against falling for such gimmicks. Besides the higher premium for the extended cover, inflation will reduce the worth of the payout to an insignificant amount that far into the future. Let us assume the buyer is 35 right now. Even a low 4% inflation will reduce Rs 1 crore to worth only Rs 17.12 lakh if he dies at 80. When he is 99, the payout will be worth only Rs 8.12 lakh. So forget about leaving behind that legacy! Joshi says there are better ways to leave a legacy for the family. “Investing the difference in premium in an equity fund will yield far better results,” he argues.
However, having a term plan with longer shelf life may be of use for some. Particularly, those likely to shoulder burden of loan obligations or support de pendent children well into retirement may need the protection. Those who have not accumulated enough financial assets during working years may also take comfort in having some cushion to fall back on.
Buying a short policy term
Opting for a very short term is also a mis take. Buying a cover till the age of 45-50 will be very cheap but it will leave your family with no cushion after the policy ends. Ideally, a policy should cover you till you fulfil all your financial obligations and pay off debts. Family responsibilities-arranging for kids’ higher studies and marriage related expenses-are at the peak for most individuals in their 40s and 50s. The bread winner’s demise in this critical phase may leave the family exposed. It is also unlikely that the family will have accumulated sufficient assets to lean on by this time.
Opting for return of premium
As the name suggests, such policies pay back all the premiums paid if you survive the whole term. This may seem a good deal, but don’t fall for this bait. The catch is a far higher premium outgo. If a Rs 1 crore term cover costs Rs 13,448 annually, the same policy with a return of premium option will cost Rs 28,590 per year. So what, you might ask-why mind the higher outgo if the buyer gets back the money? Nisreen Mamaji, Founder, MoneyWorks Financial Services, counters, “Ask yourself what you are giving up in exchange for that ‘privilege’ of getting your premiums back.” Here’s the math and perspective: At the end of the policy term, the ‘return of premium’ plan will pay back Rs 7.43 lakh. If the buyer invested the difference in premium in a hybrid fund for the same period, an 8% annualised return would fetch Rs 13.15 lakh by the time he reaches age 60.
Not reviewing the life cover
So you bought a life cover at an early age? That is a great start, but as they say, well be gun is only half done. As your personal circumstances evolve, the cover you started with may not be adequate. Rustagi insists the amount of cover at any time should be in sync with ongoing liabilities and in come. Certain critical situations or phases in life will demand that you opt for a higher cover. For instance, the birth of children brings added financial responsibilities. Your initial life cover will be hardly enough to meet a growing family’s needs. You may also need to hike the cover if you opt for a big home loan. If your income has risen sharply in past few years, it may be worth opting for that higher cover.
Choosing the wrong payout
Most life insurance plans offer multiple options of payout in the event of the insured’s death. Apart from paying out the entire sum as lumpsum, the policy may give you the choice of a regular, staggered payout or even a combination of lumpsum and regular payout. Your choice of payout is critical to how your loved ones benefit from the policy. At times, surviving family members may not be financially savvy or well-versed in tackling money matters. Handling a big sum of money upfront may prove to be a tall order. The family may make mistakes, so a staggered payout in regular tranches may be more suitable for their needs.
However, some experts advise against this option. As time passes, the money that you receive every year loses its worth under gradual payout. Inflation will erode the value of the money at an exponential pace. Further, if a big-ticket expenditure comes due at any time, your family will not have access to the required sum since payout from the policy comes only in tranches. “A one-time bullet payment gives a lot more flexibility to the family,” asserts Joshi, who suggests that the insured guides the family beforehand on how to deploy the money if the time comes. Parking the entire sum in a bank fixed deposit is the safest approach and also doesn’t require any grunt work.
Opting for limited pay mode
The regular payment option requires an annual premium paid for the entire duration of the policy term. But you can opt for a ‘limited pay’ option also, where you pay for only a few years while the coverage continues for a longer period. You can even opt for a single premium option. Experts are not convinced of the utility of limited pay options, though there may be few circumstances which warrant a limited pay option. It frees you from the cash outflow burden early. You can time the payment period to match your active working years. This may prove helpful for those with short career span or who have only few working years left. Paying off the premiums earlier also reduces the chances of policy lapsing owing to missed payments.
Not informing your family
This is the worst mistake one could make in life insurance. Having secured your family with a life cover will count for nothing if they have no clue of its existence. It is worse than not buying a life cover. You pay for it but don’t get its benefit. Not only should you alert a responsible member of the family when you buy the policy, but also disclose its exact whereabouts. No matter how discomforting the topic may be, it is a discussion that you simply cannot put aside. You do not want your spouse or children to run around searching for the policy document when they actually need it.