We are in the tax planning season right now and buying a life insurance policy is a popular choice to save income tax. The premium paid on life insurance policies is tax-deductible under Section 80C.
Moreover, the maturity proceeds are tax-exempt under section 10 (10d) of the Income Tax Act provided the premium amount does not exceed 10 percent of the sum assured for any year during the premium paying term for the policies issued after April 1, 2012.
Tax savings aside, a correct life insurance plan can be a great vehicle to secure the financial future of your family and your loved ones. But buying life insurance that suits you and your family’s financial needs can be tricky.
Market leader Life Insurance Corporation (LIC) alone offers nearly three dozen life insurance policies. And if we add rider benefits such as accident insurance, disability insurance, critical-illness cover and premium payment waiver then the policy combination can run into hundreds.
This can cause a lot of confusion and you could end up buying a wrong plan or the one that is financially more beneficial to your insurance advisor or the life insurance agent rather than for you and your family.
But there’s an easy way out of this jungle of life insurance plans. Ask yourself some simple questions and you can never go wrong in buying the right insurance plan for your family. This should help:
1. Why do you want to buy a life insurance policy besides saving tax? This is the most important question that should be asked while deciding to buy a life insurance policy.
While all life insurance plans help us save tax and provide life cover, every plan is designed by an insurer for a specific financial purpose. For example, some plans are designed to just ensure your earning power and nothing more. Then some plans can be used to make long-term savings and investments besides the life cover.
Some other plans offer pension benefits and can be used for retirement planning. And there are single premium plans that can be used as a vehicle to save lump sum cash and compete with long-term bank FDs.
Finally, there are unit-linked insurance plans (ULIPs) that invest the premium proceeds in the stock market and offer much higher returns over the longer term than the traditional insurance plans.
2. How much insurance premium can you spare every month? Various life insurance plans are not only designed to meet specific financial goals but also tailored to your savings or investment capacity. If you are low on budget but still want to secure your family’s financial future, then buy a plain vanilla Term Insurance Term plan. These are pure-play insurance products and offer the highest sum assured for every rupee of premium paid. Under the plan, your nominee will get a large lump-sum amount in the unfortunate event of your demise.
The Term plans usually last till you reach the age of retirement or 60 years of age and there are no benefits if the policyholder survives the policy tenure.
These plans can become part of your financial planning and can be used as a substitute for investment in fixed income instruments such as bank fixed deposits or debt mutual funds.
3. Where are your long-term financial goals? At the end of the day, life insurance policies are financial products and they should fit your long-term financial goals. For example, if you just want to ensure your earnings power and plan to save and invest separately through instruments such as direct equity, mutual funds or bank FDs then just buy a Term insurance plan with a large sum assured. This will also suit young professionals who can afford to risk their savings in the equity market.
You can choose a specific endowment with a specific tenure to save for a particular financial goal in your life. Most endowment plans also have a single premium payment option that can be used to make financial gifts to your kids or grandkids to provide them with a recurring or lump sum income once they reach adulthood.
4. What is my investment horizon? Life insurance products other than term plans are long-term savings and investment products but policy terms are not open-ended. All savings-cum-insurance plans involve a period of lock-in wherein the maturity benefits are only paid after you have paid the premium for a certain year. These can be as short as two years or 30 years depending on the plans and the policy tenure selected by you.
So buy endowment, whole life or money back plans only if you can afford to wait for maturity benefits for 15 years or longer.
The longest-running plans are whole life plans like LIC Jeevan Umang that pays out benefits till the policyholder turns 100 years of age. These whole life plans can also be used to leave a big lump-sum amount for your next generation. Those with a shorter investment horizon can opt for endowment or money back plans such as LIC Dhan Rekha.
(Karan Deo Sharma is a Mumbai-based finance and equity markets specialist).