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BASL Registration Number: 1951 | Non-Individual RIA. Regn No. INA000017620 | Validity Perpetual

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Understanding Term Insurance – Beyond the plain vanilla cover

Updated: Mar 19

Term insurance has the been the simplest form of life insurance product to understand. The insured pays regular premiums during the policy term and in the event of his death, the nominee gets a lump sum death benefit. However, it is possible that somehow the basic purpose of buying life insurance to take care of a family in the absence of the breadwinner may not be truly met. This usually happens when the family is not financially equipped to handle the huge insurance claim wisely.

Keeping in mind this issue, insurance companies in recent years have come out with customised term plans with different pay out options. The primary difference between a pure term cover and term cover with income benefit is that while the former offers lumpsum payout to the nominee, the latter offers a staggered payout option. Most insurance companies break the sum assured into lump sum payment and/or monthly payout for a fixed number of years in order to provide regular cash flows to the nominee. Here is a hypothetical example of the different payout options for better understanding:

Monthly income option: In this option, the death benefit is paid in equal monthly instalments over the chosen period. As illustrated in the table above, a term plan of Rs.50 lakh with a monthly income payout option pays between Rs.40,000-50,000 every month for the next 10 years. It has the lowest premium in comparison to the other 2 payout options.

Increasing monthly income: This is similar to the monthly income option except that the monthly payouts increase every year at a pre-determined rate mentioned in the policy. The payouts increase keeping in mind that living expenses increase with inflation. So, in the table above, the payout of Rs.42,000 in the first year will increase to Rs.46,000 in the second year, Rs.50,600 in the second year and so on. Since the payouts increase every year, this is also the costliest option compare to the other 2 options.

Lumpsum + Monthly Income: This is a combination of the above 2 options. Here, the nominee would receive a specified portion of the sum assured as lumpsum and the balance is paid in equal or increasing monthly payouts. As mentioned in the table, the policy with Rs.50 lakh cover pays 10 per cent of the sum assured i.e., Rs.5 lakh as lumpsum immediately on death and Rs.40,000-50,000 every month for the next 9 years. In some plans, the insured has the flexibility to decide the portion of lumpsum he would want his nominee to receive. While in others, the lumpsum benefit is decided as number of times, say 12 times of the then increased monthly income.

Which plan is suitable?

If the basis of comparison is premiums, then the evaluation becomes a bit difficult as different plans have different payouts at different rates and tenures. For a fair comparison, you need to factor in inflation which eats into the value of your money every year. A competent financial advisor can help in comparing plans with similar features.

More than the financial math, the choice of a term plan should ideally depend a lot upon on the personal and financial situation of the insured and his family. Many people are well equipped to handle a regular cash flow stream rather than a lumpsum. In most of the cases, the nominee is a spouse. If your spouse can deftly manage personal finances, then a simple term insurance plan providing lumpsum benefit is advisable. But if the spouse is not aware of financial basics, a one-time lumpsum amount may leave the recipient confused about how to utilise the money. It is likely he/she may turn to ill-informed friends and relatives for advice or quite a few may end up getting duped by crooked agents. In such a case, term plan with staggered payouts would make more sense. You can go for increasing monthly income if you do not mind paying a higher premium. Further, a non-working spouse may have immediate monetary requirements like clearing huge loans on a priority basis. In such a case, a combination of lumpsum and monthly pay outs would be more suitable to take care of loans followed by a monthly income for recurring expenses.

To conclude, leaving behind a considerable amount as death benefit is not enough for your family. The best effective use of the insurance claim money is imperative so as to suit your family’s requirement and provide immediate financial stability. An expert financial advisor can guide you in choosing a term plan depending upon your family situation.

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