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Tuesday, August 3, 2010

Basics of Term Insurance

Term insurance is the purest, simplest and perhaps the most useful form of life insurance. Under a term insurance policy, the policyholder pays a premium for a fixed term ( which is typically between 5 and 30 years) . If the policyholder survives the duration of the policy, the risk cover comes to an end. If something untoward happens during the term of the policy, the sum insured is paid out to the policyholder’s dependants.

Life insurance policies can be bought by people for various needs- savings, protection, investment and retirement. Strangely, In India, in all the excitement about ULIPs and insurance as a long term investment option, the very basic fact that insurance at its core needs to provide protection has been ignored to a large extent. And term insurance products have not been able to find their place in the sun. This is essentially due to a quirk in the distribution system where distributors are more interested in selling policies with higher annual premium as the commissions are higher. Term insurance is typically very cheap- a 35 year healthy male would be able to buy a 10 year term insurance of Rs 50 lakhs paying an annual premium less than Rs 10000.

Term insurance is also a product which is very easy to compare on the internet. Prices can vary widely between different insurance companies, and the price as well as other features can be compared in a matter of minutes. Also, this is a product that can be bought very easily online. Most life insurance companies in India offer online term insurance sale in India.

With the new IRDA guidelines on ULIPs, the protection component on all insurance policies have been enhanced to a minimum of 10 times ( or 7 times) the sum insured depending on the age of the insured. This is a welcome move and will make the insured more aware of the fact that there is a term insurance component in his policy, without it being just a pure savings or investment policy.

Another variation of term products is a product called Term with Premium Back. This is primarily done so that the insured, if he survives the term of the policy, is returned all the premiums that he has paid at the end of the policy term. This is popular in India because people feel that they will at least get their money back. But the fact is that there is no free lunch, and the premium for the same degree of cover is far higher for Term with Premium Back then it is for a pure term policy.

How does one judge the level of term insurance that one needs : various rules of thumb are used. At a basic level, 10 times the annual income if one is below 45, and 5 times the annual income if one is above 45, might be a good starting point. But then, it is difficult to generalize well.

As a term insurance product is a form of pure insurance, there is no surrender value, paid up value or loan available against term policies.

Term insurance premiums are a function of the person’s age, gender, policy term, general health and lifestyle habits. The older the person is, the higher will be the premium. The premium for a lady is lesser than it is for a gentleman the same age as female life expectancy rates are typically higher. The longer the duration the policy, the higher is the annual premium as the life insured will be insured at a stage when he is older, and thus has a higher probability of a negative event. Smokers typically have a far higher premium than non smokers. If one is obese or has preexisting diseases, then the premiums go up. For most high value term policies above 35 years of age, a medical test is required.

Term insurance can also be bought along with riders such as Accidental death and disability (ADD), Critical Illness (CI), Permanent Total Disability etc. Each of the riders has their own benefits and cost, and the user has to choose judiciously and buy what is useful.

Who should buy term insurance?

Term insurance policies are suitable for people who wish to obtain maximum insurance coverage at a minimal cost. Ideally a term insurance policy should be bought early and is best suited for the age group of 25-50. Term insurance should also be bought for credit protection- if one has taken a huge loan for an asset, it is wise to cover one’s life for the loan amount so that if something happens to the loan holder, the burden of the loan does not fall on the family members.

What to look for in term insurance policy before buying?

Choosing the best term insurance policy is very easy. As term plans just offer pure risk cover, a good comparison between the products of various insurance companies can be done on the basis of the premium charged for the same insurance cover. One should also consider the tenure or term of cover that you can buy. Finally, the term insurance that offers the maximum term at the lowest possible cost should be bought.

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