Life Insurance - All you need to know to save big bucks

This is for you if you have a life insurance cover. Or have plans to get one.

This blog post emerges from a project I started  to help young professionals with understanding and, I hoped, better management of personal finance affairs. 

I soon realised that countless people of all ages, including hardened finance professionals and clear headed numbers experts, are buying ridiculous life policies which will collectively lose them billions while enriching the insurance companies and their agents.

Insurance is the subject matter of solicitation. This caution mandated by the Insurance Regulatory and Development Authority leaves me both bemused and amused. I don't understand what they are actually trying to say and I doubt if the author intended to make a tongue-in-cheek allusion to that other profession, dalliance with which also gets you screwed. 

The Simplistic Basics
Everyone who has people dependent upon their earnings needs to get a life cover.

Life insurance works like a mutual support group with the insurer as co-ordinator. Those who survive help pay for those who die early. The cost of such mutual cover plus a reasonable profit for the insurance company is very very small. All in all a brilliant and fair-to-all concept.

Insurers employ actuaries to do precise calculations of what anyone joining the party needs to pay, and they are very good at it.

The Ugly Reality
However, the moment you start talking to an insurance agent, public or private sector, you get bombarded with a sales pitch which has nothing whatsoever to do with life cover. The key words you hear in varying order but without variety are:

• Tax Saving
• Endowment
• Money Back
• Capital Growth
• Profit Sharing
• Unit Linked
• Stock Market Gains
• Bonus
• Insurance Bhi, Investment Bhi

All these are seductive but dangerous ideas. Don't listen. Don't get diverted from your objective, which is life cover in case of pre-mature death. Don't ever think. Their sole purpose is to get you to spend more money than you should. 

 

This is what happens to the premium paid for 90% of the policies:  

• A tiny part goes for covering the risk to your life.
• A largish part goes to agent fees, specially in the first few years. 
• A significant part goes to insurer to cover costs and profit.
• The rest goes to market investments which they are not very good at managing. 

It gets worse when you are sold policies to cover a child's education or marriage. It gets ugly when "life policies for children" are sold.

The fact that very often the person selling the junk to you is your banker makes it contemptible. You trust him. He is out to make a package at your cost, for himself or his bank or both is besides the point. 

The Simple Truth 

• Mixing insurance with savings or investment puts you to great loss.
• Only an earning person with dependants needs a life cover.
• The best life cover is one that pays nothing if you survive. If you want your money back, don't give it in the first place. Insurance companies are no good at managing your money. They are not smart investors on your behalf. They don't know stock markets better than mutual funds, which additionally offer you low or no cost realignment if needed. Plus they have sticky fingers; some of it never comes back.
• If you want full tax savings, get the cheapest life cover and put the rest of your 80C allowance in public provident fund. You will save and earn at least twice as much. Much more than an insurer will pay to cover education or marriage of children.
  
• If you want to get stock market benefits, save money on premium and invest directly into ELSS tax saver funds and realign every three years with advice from a stock market specialist. 
• If you wish to endow anyone, do it directly. Why pay a middleman to do it?
• If you have insured your family members who don’t, in turn, have dependants on their present or potential earnings, cancel such policies, and finally,
• If you have any policy other than a term insurance with nil maturity benefit. Look to get out of it.

What is Term Insurance?

It is a simple contract. You agree to pay the insurance company Rs. X per year for a term of, say, 25 or 30 or so years. In return the insurer agrees to pay your nominee Rs. Y Lakhs if you die before the term is over. If you survive the term you get nothing. The premium for your exact age for different terms should be easy to ascertain.

What Next?

Clean up your insurance act and, using the same amount of money, you have the choice of getting a much larger life cover and  / or putting away the rest into more fruitful savings options.

Get the cheapest and simplest term insurance, or a minor variant, from a reputed private sector life insurer or LIC. Useful add-ons are a. accident cover, b. disability cover and c. life cover to a later age while premium stops with your earning years. Preferably buy online. Update it at least every five years to ensure you have cover for 5 to 8 times your current annual earnings.

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ps1: For my friends who have public sector / private sector issues, I would like to add that for medical or health insurance I strongly recommend public sector insurers.
ps2: Getting out of an existing policy may involve some costs but in a vast majority of cases is still worth it for the money you start saving immediately. You may need some number crunching. 

ps3: Why the swipe at the Government of India in the title?  While every insurer deceptively mis-sells, the originator, master and the greatest practitioner of the mis-selling art is the LIC. The GOI is the biggest beneficiary of LIC's financial success and muscle. LIC routinely bails out GOI's overpriced share offerings of public sector non-performers. Also invests inefficiently in the private sector. With your money.
ps4: One of key tasks of IRDA, the insurance regulator, is to protect LIC.

Optional Reading:   

1. Actuary
2. Term Insurance