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When you buy life insurance, it is best to go for term life insurance. Let me quickly recap what term life insurance is – it is a policy that provides only death benefit i.e. in the event of demise your family stands to receive the coverage amount (sum assured). This is pure insurance and so it comes at a low cost. But it provides high coverage. If planned properly, it will ensure that financial needs of your loved ones are taken care of (in your absence).
Within term life insurance, there are primarily two options which you can go for
Option 1 Level Sum Assured – where the coverage remains the same throughout the policy term
Option 2 Increasing Sum Assured – where the coverage increases every year
I recommend Option 2 and the reason is simple – Inflation. What is inflation? Every year there is a rise in prices of goods and services and therefore a fall in the purchasing power of each rupee. As inflation rises, every rupee will buy a lower quantity of goods. Put simply, what could be bought with Rs 51 in the year 2010 now requires Rs 100.
If a person chooses option 1 (coverage amount stays same), the effects of inflation would erode the actual value of the cover. For example, if Rs 1.00 crore is take as cover amount and if demise happens after 10 years, the nominee would get Rs 1.00 crore but the purchasing power would be equal to today’s Rs 69 lakhs (assuming a 4% rate of inflation).
What happens if the increasing coverage option is chosen, say with 5% increment every year? In 10 years the nominee would get a payout of Rs 1.50 crores. Even after the effects of inflation, this would be equal to Rs 1.03 crores in today’s term. Which is what the insured was aiming for in the first place, right?
Will this mean a higher premium has to be paid? Yes, it will be cost at least 15% higher to go with increasing coverage. It may be a bit of a struggle initially but your income is going to go up every year. And you still get high coverage at relatively cheaper premiums.
I’m going to give you a quick tip to further reduce the premium amount – don’t take a policy tenure up to the age of 80 years. You are going to retire between the age of 60 and 70. By then your kids would have grown up and you would have amassed enough wealth to support your family. Essentially you will lesser financial dependents at that time and so you won’t need this cover.
Life insurance comes with a lot of options today but if you choose wisely, it can become very cost effective. If you need any further help in choosing a life insurance cover, drop me a line at mathewpravin@yahoo.com and I’ll be happy to help.
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