The first rule of managing your finances is to get a life insurance commensurate with:
a. Your Income
b. Your Responsibilities
Many professionals make the mistake of not inuring themselves adequately, or going for fancy insurance products that are not suitable for their needs.
Why Insure your life?
Nothing is certain in life, including life itself. There is a remote chance that you end up dead before you have completed all your responsibilities, and leave your dependents in a tough spot. You need life insurance to cover for that eventuality. Even if you aren't there with them, the money from your insurance policy makes sure that your loved ones can live the life you wanted to provide for them. The tax benefit u/s 80C is just cherry on top.
How much Insurance do you need?
The insurance agents will tell you to take an insurance worth about 10 times your annual income. That might sound a lot to you in the initial years of your career, and even bigger towards the mature years of your career when your annual salary is higher.
This thumb-rule is for lazy people. You are reading this blog, and therefore do not belong to this category!
The amount of Insurance you need depends upon the income you are trying to guarantee for your family in case something happens to you.
Let's take a scenario:
Say, you are a 25 year old married person earning 1 Lakh per month, with household expenses of 65 thousand per month. Simplistically, you need to guarantee either 65 thousand per month for the next 60 years (assuming life expectancy of 85 for your spouse) OR 1 Lakh per month for the next 35 years, guaranteeing your current income till 60. Then one needs to bake in inflation and the fact that your insurance payout would be invested somewhere smart. If I put these parameters in a simple model, your sum assured comes out to be around 1.9 crores. As you can see, this is NOT 10 times of your annual income, but significantly more than that.
However, multiple factors can influence this calculation. For example:
a. Is your spouse working?
b. Do you expect a similar life-style post your death?
c. Do you already have some investments towards retirement or life goals?
Also, as you grow older, the need for life insurance can come down. Firstly, you have less years to insure your family for. Secondly and more importantly, you have already saved and invested for the past years. This means, as your income and savings grow, your insurance amount can actually come down. So don't use thumb-rules, instead think about what you are insuring for, and work out the sum assured. If in doubt, reach out to us for a quick consult.
What kind of Insurance should you buy?
Before we get to that, think about your car or bike insurance... you insure them every year for accident, theft etc. Most years, nothing happens and you get a bit of no-claim-bonus and renew your policy. And then, some day when your car has an accident or gets stolen, you thank the insurer and collect your money.
However, when it comes to life insurance, there are way too many products out there, making decisions difficult unless you are very clear on what you need.
At a high level, there are two types of life insurance policies.
Term Life Insurance Policy
Endowment/ Money-back Policy
1. Term Life: Term Life policy is very simple. You take the policy as a cover against your life. If something happens to you during the term (period) of the policy, your nominees get the money. If nothing happens to you, no one gets anything. Simple. This is the type of policy you need.
2. Endowment/ Money Back: These policies offer both insurance of your life and some money coming back to you even if you survive the policy term. All Childrens' plans, endowment plans, whole life plans, premium back plans etc. are a version of this type of insurance. Problem is, this is not an insurance, but a blend of insurance and investment vehicle. And because these products are less transparent and inefficient, I do not recommend anyone to buy them.
In India, thanks to the vast network of LIC, as well as the lack of transparent financial market instruments for decades, generations before us relied on insurance for investment purposes. That was wrong then, and it is wrong today. The only kind of life insurance you ever need is Term Life insurance. The money back options just to make more money for the agent and the insurance company.
When to insure your life? As the premium you pay is dependent on the age you buy the policy, the best time to insure your life is NOW. Opt for a term that insures you till your retirement age and remember that you can always get a second policy when you want to increase the cover. Similarly, you can cancel this policy when you no longer need it. Accordingly, review your insurance needs every 5 years. And hey, don't wait till March to take the policy. It is best to keep the policy date, the same as your birthday/ anniversary or another memorable date, so you never forget to pay the premium.
How to buy Life Insurance? The quickest and most economical way of buying life insurance is online through insurance comparison sites.
As you can see in the chart above, our 25 year old friend buying a term insurance of 1.9 crores covering him till the age of 60, can get himself this policy for less than Rs. 50/- a day (just over 17,000 per annum).
So, don't wait and make sure you have adequate life cover!