Term Insurance 101

What is Term Insurance

Imagine a world where you could potentially acquire a product that could stand in for you. Well, not exactly a carbon copy of yourself, as that would be a tad absurd. But picture having a duplicate version of yourself capable of earning and generating income just like you. Wouldn't you seize that opportunity? Perhaps, even pay an annual fee to maintain this surrogate presence? Most likely, you would. Well, that's essentially what a term insurance product offers. It serves as your financial doppelgänger, activated upon your demise.

Let me elucidate further. When you invest in a term insurance product, you make annual payments to safeguard against potential financial setbacks. In the unfortunate event of your passing, the insurance company disburses a substantial sum to your family or beneficiaries. Think of it as a sum like 1 Crore, 5 Crore, or even 10 Crore. Ideally, this money is intended to replace your financial role. It should provide support to your family when you are no longer the primary breadwinner. As long as you haven't intentionally provided false information to the insurer during the policy purchase, they are obligated to pay the full amount immediately upon your death. In fact, even if there were inaccuracies that you didn't intend, they have a three-year window to uncover any discrepancies. If they don't find any within that time frame, they are legally bound to disburse the payout without any inquiries. So, unless you take your own life within the first year of obtaining the policy or meet your demise while engaged in criminal activities, your loved ones will receive this financial support.

While the core concept of this product is straightforward, we will delve into some of the critical factors that influence the decision to purchase term insurance in the following section.

"What constitutes an optimal coverage for your term insurance policy?"

The initial question should by now appear quite evident—How much money is necessary to serve as a financial substitute in your absence?

This is indeed a challenging question, and let's be frank—it possesses a certain degree of subjectivity. However, several crucial factors must be taken into account. To begin, consider your financial obligations. If your lifestyle necessitates a specific level of expenditure, maintaining it becomes imperative to prevent any noticeable impact from your absence. So, if you're currently spending 50,000 every month, your term insurance policy should provide a replacement for this income. At that rate, you're likely looking at a coverage amount totaling 1 Crore. Allow me to elucidate the rationale behind this figure.

Now, envision what your family would do upon receiving this sum. Let's assume they opt for the simplest and, perhaps, the wisest course of action.

Fixed Deposits!

At a 6% annual return, their annual income would be 6 lakhs, which should effectively compensate for the loss of your income. However, considering the impact of inflation, that 6 lakhs could quickly lose its purchasing power. So, to combat the erosion caused by inflation, let's consider a scenario where the insurer pays out 2 Crores. This would yield an annual income of 12 lakhs for your family, a substantial sum that might suffice for the next 10 years.

Nevertheless, if you have a substantial amount of financial obligations, such as loans and similar commitments, it becomes prudent to explore a higher coverage amount. While these figures are ballpark estimates, the underlying idea is to ensure that the final payout generates sufficient cash flows for an extended period. This should cover all your family's expenses, including EMIs, and potentially leave a surplus. You can explore our complimentary term insurance calculator to determine the optimal coverage tailored to your needs.

What would be the optimal policy duration?

Remember. With a term insurance product, you keep paying your premiums until you die. Or the policy lapses. So there is an expiration date of sorts and it’s on you to decide how long you want to keep your policy. And you have to make this choice at the time of purchase. You can’t change it afterwards. So there’s a lot riding on this.

Once more, your objective is to achieve financial substitution for yourself, and the reason behind this is clear. When you're in your youth, your family might not have substantial savings to rely on in case of unforeseen events. However, as you age, this dynamic evolves. For instance, by the time you reach 60, your children will likely be self-sufficient adults. Your spouse might have a retirement nest egg to rely upon, and the number of dependents you need to concern yourself with will likely diminish.

So, commencing the policy at age 60 could be a sensible starting point. However, the insurance company is privy to a critical factor: the average life expectancy in India hovers around 70 years. Consequently, if you intend to maintain the policy beyond this age milestone, it's important to note that your premiums will experience a substantial increase—quite a significant one. This implies that the optimal window lies somewhere between 60 and 70. Any age within that range should ideally align well with your needs.

Furthermore, while this overview should provide you with a fundamental understanding of term insurance, there exist additional features, often referred to as riders, that can be attached to the base policy. These supplementary elements can bolster your financial replacement strategy. Among them, the most valuable rider is the life stage benefit.

What are the advantages of having a Life Stage Benefit?

Term insurance policies come with a high degree of inflexibility. Once you've committed to a specific coverage amount at the time of purchase, that amount remains fixed throughout the policy's duration. For example, if you initially secured a 1 Crore coverage six years ago, it will remain at 1 Crore until the policy reaches its expiration date. Consequently, if you acquire the policy at a young age, the coverage amount may prove insufficient in the future, particularly as your life evolves, such as when you marry and have children.

However, there's a notable exception: the life-stage benefit. With this feature, your insurer provides you with the option to augment your coverage by a predetermined amount during significant life events, such as marriage and the arrival of children. This level of flexibility is a valuable component of a robust term insurance policy. So, if you find yourself unmarried at the moment, it might be worthwhile to contemplate the advantages of including this benefit.

If you anticipate having additional dependents in the future, opting for a life-stage benefit becomes an evident choice.

When the insurance company exempts you from paying premiums

Picture this scenario: one day, the medical professionals deliver the devastating news that you'll be confined to a wheelchair permanently. It's undoubtedly a distressing situation. You'll need to resign from your job, find alternative ways to sustain yourself despite your condition, and reevaluate your financial investments. This might even lead to contemplating the cancellation of your term insurance policy.

How can you manage to afford the annual premium of 15,000 under these circumstances?

That money could prove more valuable elsewhere. But what if there was an alternative? What if your insurer allowed you to retain your policy even without the burden of premium payments?

Here's the thing—your situation is unique. If it weren't for your disability, you would have continued with the policy. That's where some insurers offer you a solution: a premium waiver. In essence, they propose this: pay a modest fee, and you won't need to concern yourself with premium payments if you become disabled. You can still maintain your policy!

Furthermore, while the premium waiver I just described comes into play in the event of permanent disability, you also have the option to secure a premium waiver if you receive a critical illness diagnosis, such as cancer.

At first glance, a waiver of premiums may not seem like a significant benefit. However, if you find yourself permanently disabled or compelled to leave your job due to a critical illness, this feature could be a genuine lifesaver. Thus, it might be prudent to actively contemplate the inclusion of both these riders.

Additional coverage in the event of your accidental death?

We experience lenient enforcement of traffic regulations, encounter poorly-maintained roads, and suffer from inadequate street lighting. Additionally, there is no shortage of reckless drivers and speedsters on our roads. Consequently, fatal accidents occur in our country at a staggering rate of one every four minutes.

If you find yourself concerned about this alarming statistic, it might be a prudent decision to consider an accidental coverage option. With this coverage, should you meet with an accident resulting in your demise, the insurer would provide an additional 1 Crore payout to your family on top of the base term coverage of 2 Crore. While these figures are purely for illustrative purposes, you can easily grasp how this extra layer of security can prove invaluable for your dependents.

By paying a nominal premium supplement alongside your base premium, your family could receive additional financial support and enhanced protection in the unfortunate event of your accidental death. However, it's crucial to emphasize that you should never reduce your base term coverage simply because you have this added protection; doing so would not be advisable.

What are the advantages of having a Critical Illness Benefit?

Coping with critical illnesses like cancer can be an immense challenge. While it's true that an extensive health insurance policy can cover your medical expenses to a considerable extent, being diagnosed with a debilitating disease often necessitates taking a hiatus from work. This leaves you unable to earn, and your family must find a way to manage without your income.

However, if you choose to include a critical illness benefit, the situation need not be so bleak. In the event of a critical illness diagnosis, the insurer will provide a cash payout equivalent to a portion of your term insurance coverage. This payout can vary, ranging from 10 lakhs to 50 lakhs or even 1 Crore, depending on the amount you select when opting for the benefit. You can utilize this money to replace the income lost during your battle with a critical illness.

A critical illness rider can significantly alleviate the challenges you face during such trying times. It's important to bear in mind, though, that most policies will deduct the payout from your sum insured, causing a corresponding reduction in your term coverage amount.

Is it advisable to consider a Terminal Illness Benefit?

The last thing anyone facing a terminal illness wants to do is surrender hope. When a medical professional delivers the news that you have just six months to live, it's not the time to start counting down your days. Instead, you seek out every possible avenue for survival, aiming to access the best available treatment, perhaps even considering treatment options abroad. However, this comes at a significant cost.

If you decide to include a terminal illness benefit in your insurance, it might provide you with a lifeline. You see, certain insurers offer the entire coverage amount as a lump sum payment the moment you receive a terminal illness diagnosis. It's essentially them acknowledging, "You're in a dire situation, so here's the money." This substantial lump sum could potentially grant you the means to pursue the best medical care available. What's even more reassuring is that if you surpass the initially projected six-month life expectancy, the insurer won't demand repayment.

While this may appear to be a valuable benefit, it's important to acknowledge that the likelihood of a doctor certifying a terminal illness and the insurer accepting this assessment isn't particularly high. So, it's advisable to take this factor into consideration before deciding to include this specific rider.

Is it possible to counteract inflation by opting for an escalating coverage?

Term insurance operates in a rather unconventional manner. You select a specific sum – your total coverage. In return, the insurer commits to providing this coverage to your beneficiaries if you pass away. To uphold your end of the deal, you continue to pay an annual premium until the fateful day arrives or your premium payment period concludes. While this arrangement might not seem peculiar at first glance, consider the ramifications of your decision 15 years down the line. A one crore cover, for example, might appear inadequate if you haven't factored in the effects of inflation.

This is precisely why most individuals choose their sum insured while assuming that inflation will persistently erode the value of money each year.

But what if you didn't have to grapple with these concerns when selecting your coverage? What if your sum insured grew by 5% or 10% annually? That would certainly simplify matters. However, it's important to note that premiums for such plans will be considerably higher than those for straightforward term insurance. After all, there's no such thing as a free lunch in this world. So, if you are contemplating the purchase of a term policy with an escalating coverage, it's worth remembering that your premiums will be 50% to 60% higher as well. Hence, it makes sense to proactively account for inflation in your decision-making process, something we are here to assist you with.

Ultimately, you have the choice to opt for this benefit or perform the necessary calculations now and choose a larger coverage amount that safeguards against inflation. The decision lies in your hands.

Is it advisable to reduce your coverage as you age?

Recall how I initially presented term insurance as a financial replacement tool? Well, let's delve back into that concept. As you advance in age, your dependents may not rely on your financial support as they did in the past. Your children mature, and the value of your savings portfolio tends to increase. You'll likely accumulate sufficient resources to weather financial storms. Furthermore, your financial obligations may no longer appear as daunting.

Consider this scenario: if you're a young homeowner with a mortgage, you have concerns about making your monthly EMI payments. In the unfortunate event of your passing, this burden shifts to your spouse or, in a more challenging scenario, to your children. Therefore, it's evident that you require enhanced protection and a higher coverage level. However, once you've paid off your EMIs and your children start earning, you might not require the same level of financial safeguarding. The prospect of replacing your income may not pose as significant a challenge.

To cater to this dynamic, some insurance companies offer you the option of gradually reducing your coverage as you age. Consequently, your premiums decrease as the coverage amount diminishes.

While this might be a desirable feature for some individuals, it's challenging to accurately predict future financial obligations. So, if you're considering this rider, it's crucial to be absolutely certain that you won't require extensive coverage as you grow older.