Life Insurance Jugglery

Insurance has always been the front runner amongst all the financial products in the Indian market place. The latest upsurge in the middle class income, a buoyant economy and a bull market has led to an even more increase in the Insurance products available today and the darling among them has always been Life Insurance.

Life Insurance is actually a very uncomfortable thing to digest. It is a contract between the Insurer (the insurance company) and the Insured (the consumer). The insured bets that he may die in a specified period and the insurer bets that he would not die. So the risk of death is transferred from the insured to the insurer at a certain premium. Simple? Not so. Not many people can digest the fact that, “I will pay premium every year for the next 25 years and if I die, you give the whole sum assured to my dependents while if I lose the bet and do not die, I do not get anything back!”

To overcome this uneasiness, the insurance contract is many times clubbed with Investment to give it a more acceptable look because the original concept is hard to digest. But unfortunately, this clubbing of Insurance and Investment leads to one of the most ridiculous financial products today. (Spare me if you are hurt but the truth is this!)

Let me prove it to you. Usually, traditional insurance policies come in three flavors. We will leave the discussion on ULIPs for some time later.
A Recurring returns policy where you get a part of the sum assured after every few years and the balance sum assured plus bonus on maturity.
A one time return policy where you get the sum assured plus bonus on maturity.
A pure term insurance policy where you pay the premium but do not get anything back if you live till the maturity period.

In all the above three policies, you still get the sum assured if you die during the premium paying term.

For example, A 25 year old takes a single cover Insurance policy of Rs. 5, 00,000/- for a period of 25 years, this is what happens.

# This is an example premium and it differs from company to company and policy to policy.
* This is an approximation because it does not consider that the money has been paid in installments. The bonus is in some policies 3 times the sum assured (un-guaranteed) which will make the return on investments 7-8 % annually but then the premium is higher and risk prone.

As you can see from the table, the first two insurance policies while posing as investment avenues give an abysmally low return in the range of 4-5 % annually!! If you know that the inflation is hovering around 6 % today, you surely know your money is going down the drain. Instead if you had taken a term insurance and invested the amount you saved coz of the difference into a fixed return Public Provident Fund which is guaranteed by the GOI, you could have accumulated a cool 13-18 Lakh if you survived the term and would have continued to have the same ‘life cover’ during the term which you desired ! Rather than paying every year, you could have also achieved this by just paying a one time premium of 17,190/- and enjoying insurance for 25 years without any premium there after!

Now you would think if all this is so obvious, why is it that so many people do not even know that a ‘term life insurance’ exists and some even after knowing it do not take it? There are multiple reasons for this.

1. The Insurance agent gets a very fat commission on the return bound insurance products. As against this, the commission for a term insurance is very low. Obviously, the agent is in a great professional dilemma having to choose between his income and yours!
2. Term insurance is hard to get as there are a lot of restrictions on age, sum assured and health. You need to have a long array of health check ups before you are granted a term insurance. It’s even harder and a little more expensive for smokers and people in high risk jobs.
3. The third and most important reason is psychology. As I said earlier, people cannot imagine putting in money in Life Insurance and not getting anything in return. If you want the money, you die or you do not get anything. This wrongly seems to be lose-lose strategy for many people. Unfortunately, they are unaware what an insurance policy is all about.
4. Another reason is that a high premium paying Life insurance policy seems to do ‘forced investment’. You cannot just skip paying the premium some year because you need the money for something ‘urgent’ in life, without risking the life cover. In my illustration, the amount to be deposited in the PPF, is after all voluntary and a person can anytime decide to just pay the small term insurance premium and not put in the money in the PPF. This would lead to non – investment. But for strong willed investors, should this be a concern? I feel this psychology of forced investment is like enrolling your child for a ‘tuition class’ because he would not study on his own. So the class is just for the sake of forced study rather than any extra help.
   
   So, the next time you decide to go in for a Life Insurance product, do check out ‘Term Insurance’ if you want to have your cake and eat it too ;)