The Definitive Guide to Term Insurance
For many, exploring the world of term insurance can feel like diving into the unknown. The reasons may vary from a lack of seriousness to life risks to poor awareness of term insurance products available in the market to misconceptions about term insurance.
Due to which often people ignore the fact that term insurance could be a key component in every individual’s or family’s financial planning journey. Now, financial planning entails managing finances to meet emergencies and contingencies, savings, investing for wealth creation, and planning for large expenditures and milestones.
So, where does term insurance fit into financial planning? Many may wonder.
Term insurance could be an essential tool for the financial security of policyholders’ families and dependents in the case of their untimely demise. It is a safety net for the dependents that can keep them away from any foreseen and unforeseen expenditures in the future. Besides, it provides a regular cash flow.
Whether you want to ensure your outstanding loan is not a burden on your loved ones in your absence or financially secure your child’s college education long after you are gone or even if you want peace of mind for yourself and your family – Term insurance can ensure all this and more.
About Term Insurance
Term insurance is the simplest form of life insurance that covers death risk and pays a lump sum death benefit to the beneficiaries of the insured. In case the insured survives the policy period, no benefit is given, other than in the case of return of premium term policy. In a premium return term policy, the policyholder receives an aggregate of all the premiums paid.
Term insurance is purely a financial security tool for the dependents of the policyholder. It is the most useful tool for families having a single earning member.
Key Features of Term Insurance you must know
To understand the different term insurance products, it is pertinent to understand its key basic features. Here are some:
Term Insurance Policy Tenure
Synonymous to its name, term insurance policies have an end period. Typically, term insurance policies are for 10 to 30 years. As it has a fixed term or period, it is less risky to insurance companies, which is one of the reasons for its low premium.
Term Insurance Premium
The term insurance premium is calculated on the basis of the age and risks to the life of the policyholder. The older a person is, the more the premium. Term insurance is considered more affordable compared to other types of life insurance as term insurance is for a fixed period, which translates to lesser risk to the insurer.
There are three ways in which premium can be paid for term insurance – single premium, regular premium, and limited premium.
- Single premium: As the name suggests, a single premium is where the entire premium paid is paid at one go at the beginning of the policy. For example, if a policyholder has bought a policy for 25 years, he would have to pay the premium for 25 years at once. By using this option the entire premium can be made at the beginning of the policy itself.
- Regular premium: Regular premiums are those, which are paid annually or according to the period decided by the insured and the insurer at the start of the policy.
- Limited premium: When premiums are to be paid within a certain number of years, e.g. 5 or 10 years, it is called a limited premium.
Term Insurance Sum Assured
In term insurance, the sum assured is paid to the nominee/beneficiary after the policyholder’s death. One of the most affordable types of insurance, term insurance plans are usually considered better because one can have a large sum assured for a small premium. In term plans, the sum assured is fixed and not flexible; meaning the insured cannot increase or decrease the sum assured once the policy is underwritten.
Payment of Sum Assured
Typically, insurers pay out a lump sum to the nominee upon the demise of the policyholder within the policy term. However, some insurance companies also provide the option of periodic payments of the sum assured, wherein it is broken and paid out in parts. This allows regular cash flow for the beneficiaries.
Term Insurance Eligibility
Insurance is a risky business for insurance companies and hence they consider many parameters to assess every application. Here are the parameters that insurance companies usually assess to determine an applicant’s eligibility.
- Health: Insurance is a tool that covers health-related risks against premiums paid by the insured. Hence, for the insurer, it is important to assess the applicant’s current health status as well as medical history. It helps the insurer know if the health risk of an applicant is insurable and then determine the appropriate premium. In technical terms, this process is called underwriting. If the applicant is suffering from obesity, diabetes, hypertension, or other such serious health issues, the insurer would not only be extra cautious, the premium for such applicants might be higher. Another red flat is for heavy smokers and drinkers. Typically, the term insurance premium for smokers is higher compared to non-smokers. Family medical history is also a key determinant in the insurer’s decision about premium and whether or not to underwrite an application.
- Age: The older an applicant, the more cautious insurers are. The younger an applicant, the easier it is to get the term policy. Most insurers prefer underwriting term insurance for those in the age group of 18 years to 65 years. A history of early deaths in the applicant’s family due to lifestyle or chronic illnesses can impact underwriting.
- Occupation & education: Whereas health has a more direct relation to underwriting, insurers also take into account the financial health of applicants, their occupation, and education. Generally, insurers are cautious about offering a sum insured of more than 20-25 times a person’s annual income. Higher-income individuals usually have better chances of a higher sum insured.
Education too plays a key role as insurers prefer to underwrite term plans for those with qualifications of graduation and above. Education would determine the earning capacity of a policyholder and the capability of payment of premium.
Insurers also consider the occupation and profession of the applicant. An applicant with a high-risk job might not get a policy easily or may get it at a higher premium. Self-employed, freelancers and those with irregular income may find it difficult to get their application underwritten.
Different types of Term Insurance Plans
Even though it is fairly easy to understand term insurance, it can be tricky to understand the different types of term insurance plans. So let’s know about various term plans that are available in the insurance market in India.
- Level term plans: The simplest type of term insurance, Level Term Insurance plans have a fixed sum assured and makes a payout to the nominee upon the death of the policyholder.
- Return of premium plans: Return of Premium Term plans provide maturity benefit to the policyholders if they survive the policy term. The insurer pays back a pre-specified premium amount to the policyholder. However, if the policyholder dies, the sum assured is paid to the nominees. This plan is a good option for individuals who want financial security for themselves.
- Increasing term plans: In Increasing Term Insurance plans, the sum assured increases at an annual frequency. In this case, the applicable sum assured on the date of death is paid out in which the policyholder passes away. This type of term plan is advantageous as it can keep up with the rate of inflation. Hence, the policyholder can be assured of an adequate sum insured for the dependents.
- Decreasing term plans: In decreasing term insurance plans, the sum assured decreases every year based on a pre-defined frequency. The premiums of decreasing term plans are constant while the life cover reduces. Upon the demise of the policyholder, the sum assured that is applicable in that year is paid to the nominee/ beneficiary.
- Convertible term plans: A convertible term insurance plan allows the plan to be converted to another plan, e.g. endowment plan or a full life insurance plan. Such a plan provides more flexibility and room for changes to the policyholder.
- Term plans with riders: Term plans offer the flexibility to add riders such as critical illness cover, accident cover, or disability cover, among others. Such plans provide supplementary coverage and additional benefits.
- Group term insurance plans: Just like group health insurance, group term insurance plans can be bought for a group of people. If any of the members in the group dies, the sum insured is paid to the family members of the deceased.
How Term Insurance Works?
The key steps in the way term insurance works:
- The term insurance policy seeker decides the term (number of years of the policy) and the sum assured. Term insurance is the most affordable type of insurance. One can have a large sum assured at a low premium.
- Once the above are decided, the insurance company calculates the premium amount. This premium remains constant until the end of the policy. It is a plus point, as no matter the rate of inflation, the premium remains constant. It is advantageous to buy term insurance as early as possible.
- The policyholder can decide the way the premium would be paid and how the coverage amount should be paid out. The premium can be paid in full or in parts. Similarly, the payout of the sum assured can be a lump sum or in parts.
- Once the term insurance policy is purchased, the insurance company is liable to pay the sum assured in the case of the demise of the policyholder. Term insurance is most useful for those families where there is a single earning member and many dependents.
- The sum assured is either paid as a lump sum to the nominee/beneficiary or in parts, as decided by the policyholder at the time of purchase. A lump-sum payment can provide an amount required by family members to meet huge expenses, while part payment can ensure a steady cash flow, until long after the policyholder is deceased.
- If the policyholder survives the duration of the policy, the insurance company does not give out any benefit to the policyholder, except in the case of premium return policies.
- In case the policyholder wants to renew the policy after the maturity date, it can be done so depending on the clauses and up to the age limit set by the insurance company.
How to choose a Term Insurance Plan?
Buying term insurance needs due diligence from the policyholder’s end. It helps them to determine which plan is best for their requirements.
Points to keep in mind while buying a Term Insurance
- A term insurance plan seeker may have to go through additional medical tests and submit health and income-related documents.
- A policy seeker may have to pay a higher insurance premium depending on the age at which s/he is buying the plan and the current health conditions.
- In some cases, the application can be denied if there are discrepancies or the policy seeker shows signs of serious health issues.
- The sum assured of the term insurance plan should be sufficient for the policyholder’s needs. Some insurers may have a maximum limit, so it is better to check about such limitations at the time of buying a policy.
- The premium of the term insurance policy should be affordable and not too high. This will ensure the cost of the policy is easy on the policyholder’s pocket.
- The term policy should have features such as riders, flexibility, and customization so that it is most beneficial to the policyholder.
- Some insurers provide attractive premium discounts if the premium is paid in a single installment or within a limited period. Policy buyers must make use of such discounts if possible.
- The claim process of the term insurance plan should be simple and hassle-free. The claim settlement ratio of the insurance company should be high so that the policyholder can rest assured and is sure about their dependents’ financial security.
- The policy seeker before buying a policy should compare term insurance plans provided by different insurance companies to choose the best policy suitable for your requirements.
Who should buy term insurance?
Not everyone should buy a term insurance plan.
Who should buy:
- A sole earning member in a family
- A person who has family and dependents
- A person having debts like home loan, personal loan, etc.
- Those who want to avail tax benefit from the term insurance premium.
Who should not buy:
- A single person who does not have any dependents
- A retired person not earning any income to pay the premium
- A person who is financially dependent and cannot pay a premium
From whom to buy term insurance
- Life Insurance Companies
- Insurance Agents/Brokers
- Insurance Aggregators
Advantages and Disadvantages of Term Insurance Policy – How to make informed Decision
Advantages of Term Insurance
- Term insurance plans are simple and straightforward: Unlike other types of insurance plans, think health insurance plans with detailed clauses, endowment plans, unit-linked plans with investment returns, among others, term life insurance plans are simple to understand even for a layman. Simply put, a policyholder pays the premium, the beneficiaries receive the sum assured upon the policyholder’s death.
- Term insurance plans offer competitive pricing: Term life insurance has many positives to it when it comes to pricing. For starters, the premium remains constant, unlike in other policies such as health insurance, where it may change with time and age. Term insurance is also one of the more affordable types of life insurance.
- Term life insurance provides flexibility: Term insurance plans can be discontinued at any time. If the policyholder stops paying the premium, the policy gets terminated. Many term insurance policies provide facilities to renew and convert. Renewability allows the policyholder to continue the policy once it reaches its maturity period, while convertibility allows the policyholder to convert the term insurance policy to another type.
- Tax Benefit: Term insurance plans provide tax benefits for the premiums paid under Section 80C of the Income Tax Act. Additionally, the death benefit or maturity benefit in case of return of term policies is tax-free, under Section 10(10D) of the Income Tax Act, 1961.
- Financial security for dependents: Term insurance is truly designed as a tool for the financial security of the policyholder’s dependents. It provides peace of mind to the policyholder and to the family members.
Disadvantages of Term Insurance
- No return on investment: Perhaps the biggest drawback of term insurance plans is that it is purely a cash value plan, the benefit of which is for the beneficiaries or nominees, not for the policyholder. Although in reality, it is not a drawback. For those who need to secure their dependents financially, term insurance is the best option.
- Term insurance is expensive if bought at an older age: The premium for term insurance plans is determined on the basis of the age of the policyholder. The older a policyholder, the more will be the amount of premium. Term insurance proves to be more beneficial if bought at an early age.
Best Term Insurance Companies in India with their Term Plans
In a nutshell
Life insurance plans play a big role in every financial plan. Term insurance plans may meet some people’s needs better than other types of insurance plans. Most people have a legitimate need for a term insurance policy. But a lack of awareness and the benefits of term insurance may make insurance seekers vary of it.
To put it simply, people should invest in a term insurance plan, if their death is going to cause a financial crisis to their family. It is a safety net for the dependents.