May 09 2019
Term Plan is the cheapest financial product to provide financial security to the family in case of an unforeseen event of demise of the main earning member. Though Indians are severely underinsured as per global standards, the awareness about importance of term plans has increased significantly over the past decade. More and more people are getting conscious about providing financial security to their family and buying term plans.
However, our experience with the families getting death claims from term plans is that the core idea of the insured person to provide security to family is not getting fulfilled. The money received from the insurance company is getting wasted without any planning or is being invested in sub-optimal products which are not helping the family to meet their financial goals, as originally thought by the insured.
It is observed that currently the main focus of the person buying a term plan is its low cost(premium), extra features and convenience. To an extent, some importance is also being given to the amount of coverage in the policy and duration of the risk cover.
What is not widely known and discussed are two very important aspects of a Term Plan;
1. How much should be the risk cover(sum assured) in a term plan
Currently, people follow a behavioral pattern of taking a term plan with rounded off sum assured like 50 lacs/1cr/2cr/2.5cr/3cr/5cr and so on. These are imaginary numbers and person may remain severely underinsured depending upon his future family requirements.
Imagine a person earning 15 lacs per year, with a family comprising spouse(non-working), two children and two dependent parents buying a one crore term plan. As can be understood easily, a one crore coverage is low for his profile and this amount shall be grossly insufficient to meet both future household income needs and financial goals of children education and marriage in absence of the main earning member.
Instead of arbitrary imagination, one of the two popular scientific methods, Human Life Value Method(Income Replacement Method) or Need Analysis Method, should be used to know the correct sum assured. One of these methods largely covers the future requirements of the family and gives a more appropriate value for buying a term plan.
2. How will the Claimed Money be managed by the family
In the event of the demise of the insured, the nominee claims death benefit from the insurance company and get a lumpsum amount. The amount received is normally large with value running in several lacs to crores, a quantum of lumpsum money which is not managed by the nominee in routine life.
Also, the money is received as a result of a recent tragedy in the family, due to which the nominee is not always in the right frame of mind to take prudent decisions.
Even if the family has well-wishers advising them, those people themselves may not have the right experience of financial planning and of looking into the future needs of the family or that of managing such a large lumpsum amount. Their own behavioral biases may cloud the family’s investments; Preference may be given to assets like real estate, gold, bank deposits, depending upon one’s own liking rather than considering family needs and choosing investments accordingly.
In our past 15 year plus experience, we have got more than 130 death claims settled, for an amount of 2 lacs to 50 lacs, but have not seen any family benefitting properly from the claim amount. The smaller amounts have got consumed within few months for regular household needs or for payment of debt like bank loan or credit card outstanding. The larger amounts like 10-50 lacs have gone, primarily as loan to relatives or real estate or chit funds in lure of high interest rate. The worst part of this is that these investments primarily have been in cash, which means that the white money has been withdrawn from the bank and turned into cash. If this is not enough, in case of a default, the recovery of this cash money poses a challenge to the family.
Had prudent financial planning being done with this money, at least children education and marriage goals would have got fulfilled, or a reasonable monthly income could have been earned. But with purchase of some land parcel, or investing into a chit fund etc., none of the goals get fulfilled.
What should be done
To fulfil your intent that is behind taking a term plan and to ensure that in case of a mishap your family doesn’t suffer financially, you may like to consider the following action points.
1. Talk to your financial advisor about their profile and future goals in detail. Check if the total life insurance coverage including term plans and other insurance savings plans is sufficient to meet your planned goals and to provide sufficient monthly income to your family for years to come. If the sum assured in not sufficient, take a new plan to cover this gap.
2. Discuss your financial plan with your nominee, in presence of your financial advisor. Let the nominee know why you have covered yourself with as much sum assured and what goals you intend to fulfill with the claim amount, in case of an unforeseen mishap.
3. Let the nominee know that your financial advisor(or any other known person with experience, integrity and competency) may be the most appropriate person to manage the claim amount and to take the investments through to make sure that the planned goals are met.
4. Documents all the above so that the nominee is reminded about the plan when the need arise.
5. In case of any doubt, write a Will.
Buying Term Plan for financial security of the family is only the first step in that direction. Majority of the Death Claim money doesn’t fulfill the intended purpose of the life insured. To really secure your family future, insure yourself with appropriate coverage, prepare and write down the financial goals the claim amount shall fulfill in case of an unforeseen event. Inform nominee about your planning and also have joint meeting with the person who shall guide the family regarding utilization of claim proceeds to make sure that all planned goals are met. It is then only you can really believe that your family shall at least not suffer financially in your absence.
As always, your views and feedback on the above are welcome.
Pawan Agrawal is the founder and managing partner of Investguru. You may reach him at firstname.lastname@example.org .