Don’t Mix Insurance and Investment

Dear Friends,

                       Hope you had a delightful and safe Diwali!

When I do Financial Planning for my clients, there is one common phenomenon that I observed which I wanted to share with you. Almost everyone (including me, I bought a LIC Jeevan Shree policy in 2000 when my financial prowess was relatively less) has been persuaded to purchase either a whole life or money back or endowment policy from LIC. There are a few who escaped the clutches of LIC agents only to be trapped by agents of other private players.

Interestingly a high proportion of these insurance policies have been sold by either friends, relatives or close acquaintances of the investors. Rather than the product being understood and bought by the investor, they have been thrust upon them. In several cases clients have confessed that “I was aware that the policy/product is not suitable for my requirements but had to oblige as the seller is known to me”. The concept of Insurance has been abused and misrepresented by clubbing it with savings, taking the charm away from the product.

Let’s say you buy an endowment policy for a Sum Assured of X Rs. for a term of Y years. The premium that you need to pay has 2 components – “Risk premium” and “other premium”. The risk premium is based on the actuarial calculation by the Insurance company taking into account factors like age, health condition, whether you are a smoker or not etc. The “risk premium” is the actual amount charged to provide the insurance cover and the “other premium” is invested by the company and returned back to you at the end of the policy term.

The reason why I am critical about these endowment or whole life or money back policies is that they offer a paltry return of a maximum of 6%, way below rate of  inflation. I had evaluated multiple polices from both the Public sector and Private Insurance providers and the returns including the risk premium charges works out to less than 6% (It will be lesser if you exclude risk premium). Not only is the Return on Investment (ROI) low in these policies but the coverage offered (Sum Assured in case of eventuality) is also abysmally low. Insurance covers of 1 crore and above are quite common these days and if you need to buy an endowment policy with a sum assured of 1 crore, the premium that you have to pay will be an astronomical figure.

For example, LICs Jeevan Anand endowment policy for a 30 year old person for a term of 30 years and Sum Assured of Rs. 1 Crore has a yearly premium of Rs. 3.44 Lakhs. The ROI of this policy works out to approximately 4.5%

I want to make it clear that I am not against buying a Life Insurance policy. Insurance is essential but you need to go for the right solution.

So, what is the solution for this?

Buy a traditional Term Insurance policy for your Life Cover. You just need to pay the first component, “Risk Premium”, to buy this cover and use other options like Mutual Funds, PPF, Bank Deposits etc. for Investments and get a better ROI!

I am appending the yearly Term Policy Premium Rates for 30 year old healthy person, non-smoker for a term of 30 years that I sourced from websites for you to get an idea. Remember that you will get these rates only when you buy the policy online directly, without going through an Insurance Agent or Broker.

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