What is Term Insurance? How Does It Work?

I was addressing a webinar on Financial Planning. There were around 60 participants. So I asked a question to the audience.

How many of you are insured? All of them raised their hands.

My next question was – How many of you are adequately insured? Nobody knew whether they were adequately insured or not.

The only thing they knew was how much premium they were paying towards Life Insurance.

Then I asked them a third question – If you die today, how many of you are sure that your family can maintain the same standard of living in your absence? There was a perfect silence!

There lies the real benefit of term insurance.

Numerous questions go through the mind of a person who is new to Term Insurance.

What are Term Insurance benefits and disadvantages?

How does the policy work?

Do I get maturity benefits in a Term Insurance policy?

What are the tax benefits of Term Insurance?

And finally, is it worth spending money on Term Life Insurance?

In this article let us delve deep and find out the answers.

Table of Contents:

1. What is a Term Insurance Policy?
2. Term Insurance Benefits
3. Term Insurance Policy Benefits- Explained
4. Term Insurance – Q & A
5. Term Plans vs Return Of Premium Plans
6. Term Insurance Benefits – Is it worth buying?
7. Conclusion

1. What is a Term Insurance Policy?

The simplest and purest type of life insurance is term insurance. At the most reasonable prices, it offers your family financial safety. With term insurance, you can obtain a significant quantity of life insurance (also known as the sum assured) for a very little premium cost. If the insured person passes away within the policy’s term, the benefit amount is paid to the nominee.

2. Term Insurance Benefits

Before checking how the term insurance policy works, let us see the Term Insurance benefits in a nutshell-

1. Low premium (As there are no Maturity or Survival benefits)
2. High Sum Assured/Cover
3. Tax Benefits
4. Simplicity & Easy to Purchase
5. Competitive Pricing
6. Family Security
7. Peace of Mind

3. Term Insurance Policy Benefits- Explained

I explained to the participants the benefits of a Term Life Insurance Policy, by taking Mubarak, their Senior Manager as an example.

Mubarak is aged 45 and is having 2 daughters; aged 18 and 14. He is getting an annual salary of Rs. 15 Lakhs.

His company is offering him a Group Insurance cover of Rs. 20 Lakhs. He is also having a Money Back Policy for Rs. 2 Lakhs from LIC.

In case of the unfortunate death of Mubaraknow, his wife will get Rs. 20 Lakhs from his employer’s Group Insurance Policy. She will get another Rs. 2 Lakhs from the LIC policy.

He is having around Rs. 5 Lakhs in his PF account and another FD of Rs. 8 Lakhs. He is not eligible for a gratuity since he joined this company 4 years ago.

He is having an outstanding Home Loan of Rs. 8 Lakhs also for the house they are staying in now.

• What will be the situation of the family after his death?

Let us see the total benefits payable on his death:

1. Amount from the company’s Group Insurance – Rs. 20 Lakhs
2. Amount from the LIC policy – Rs. 2 Lakhs
3. The amount accumulated in his PF account – Rs. 5 Lakhs
4. Fixed Deposit – Rs. 8 Lakhs

So Total Receipts – Rs. 35 Lakhs

• Is the amount sufficient for Mubarak’s family?

The amount payable towards the Housing Loan – Rs. 8 Lakhs

Hence, Balance amount available – Rs. 27 Lakhs

His wife is not working, nor is she having any other income.

Now, she is required to spend around Rs. 10,000 per month for her daughter’s education and she also has to take into consideration the household expenses and her daughter’s future marriage.

But with an amount of Rs. 27 Lakhs in hand, she will get around Rs. 16,000 per month as interest, if she invests that money. That amount will not be sufficient for her to meet the household expenses, because Mubarak is spending around Rs. 30,000 per month towards the household expenses.

• What Mubarak has to do now?

The amount required to ensure an inflation-adjusted monthly payment of Rs. 30,000 till his wife is aged 75, is Rs. 90 Lakhs.

In addition to this, there will be an expense of Rs. 10 Lakhs each for the children’s higher education and marriage. So, the amount required for 2 daughters will be Rs. 40 Lakhs.

Hence, his family requires Rs. 1.30 Crore, if they have to maintain the same standard of living in the unfortunate death of Mubarak.

Life Insurance Policy of Rs. 1.30 Crore- Can he afford it?

Mubarak is paying around Rs. 10,000 per year towards his Rs. 2 Lakhs Money Back Policy. How can he pay the premium of Rs. 1.3 Crore Policy?

He can afford a Term Insurance Policy at a less premium amount.

Yes. He can opt for a Term Insurance policy for Rs. 1.3 Crore and the annual premium can be as low as Rs. 27,000, especially with term plans.

• What can we learn from the life of Mubarak?

In our example, in case of the death of Mubarak before the age of 60, his nominee will get Rs. 1.3 Crore, if he pays an annual premium of Rs. 27,000. If he survives till the age of 60, there will not be any payment from this policy.

Is it worth going for a policy with Rs. 27,000 additional expenses every year?

Of course. It is recommended that one should go for such a high-value Term Policies to ensure smooth living for its dependents, in case of unfortunate death.

Therefore consider the premium of Rs. 27,000 as an additional expense, because you are paying for the peace of mind that you are getting by taking the insurance cover.

So this is how a Term Insurance Policy work.

Checklist Before Purchasing A Term Insurance Policy

4. Term Insurance – Q & A

Below are some of the frequently asked questions about Term Insurance that I face when I meet common people.

i) Is there a LIC Term Plan with Maturity Benefit?

There is no LIC Term Plan with maturity benefit or survival benefit.

ii) Does a Term Insurance Policy give Benefits on Maturity?

There are no benefits on maturity for a term insurance policy.

iii) What happens to Term Life Insurance at the end of the term?

Since there are no survival or maturity benefits at the end of the term in Term Life Insurance, you do not get anything.

But nowadays many plans in the market offer a return of premium at the end of them in the term life plan.

iv) Do you get your money back after Term Life Insurance?

No, you do not get your money back after the term of Term Life Insurance ends

v) Do Term Life Insurance premiums increase each year? No, Term Life Insurance premiums do not increase each year because the premiums are fixed throughout the term of the plan.

vi) What are the Disadvantages of Term Insurance Policy?

The only disadvantage, which people see, is that there is no survival benefit in Term Insurance. But I see it as an advantage. As a result, the lack of survival benefits in Term Insurance helps the insurance companies to reduce the premium of the policy.

Advantages and Disadvantages of Term Insurance Plan

vii) What are the Tax Benefits of Term Insurance?

You get tax benefits under Section 80C also, if you buy a Term Insurance plan. That is one of many Term Insurance benefits.

viii) What is Human Life Value Calculator (Life Insurance)?

The Human Life Value Calculator will help you to determine the Insurance needs of an individual.

5. Term Plans vs Return Of Premium Plans

There are various Term Plans with Return Of Premium offered by the insurance companies in addition to the pure term plans. Though it seems a better option, the premium in these types of term plans is very high.

In a Normal scenario, if you are paying a premium of Rs. 10000 for a Term Insurance policy, the premium would be at least 2-3 times in a term plan with a return of premium.

This is the unpleasant reality of “Return of Premium in Term Insurance Plan”.

Return Of Premium vs Term Insurance Calculator will help you to check what we have discussed above.

6. Term Insurance – Is it worth buying?

From the Life example of Senior Manager Mubarak, we can be pretty sure that Term Insurance will secure our future and family in our absence. Can you believe this?

Even I could see others in the Webinar getting busy calculating their Life Insurance needs. Yes, these are the benefits of Term Insurance. Therefore it is worth paying a small price for it.

After you decide that you are going to opt for a Term Insurance Plan the next step is to choose the right Term Insurance for you.

7. Conclusion

We have seen from a real-life example that a Term Insurance plan has a lot of benefits.

Also, I suggest buying a Pure Term Plan. Furthermore, you should not buy a Term Plan with a total return of premium(TROP) because TROP plans have a high premium.

Is it better to keep whining without peace of mind about the future of your family in your absence, or sacrifice a little money today with the satisfaction that your family is secure in the future?

The decision lies in your hands!

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