Is Insurance an investment? Is Insurance a risk protection tool?
Let us find out the answer for these questions in this article. Insurance is always mixed up with savings and investment by many.
Truth is, it is easy to sell a policy with benefits of maturity amount rather than sell it as a risk protection tool. Also, the maturity amount is guaranteed, and human bias is always to expect a guaranteed return than a higher return with little risk.
From my personal experience, I was sold an ULIP (Unit Linked Insurance Plan) as a high return producing investment tool in 2008. As I didn’t know anything about insurance and this specific ULIP, I believed this 3 times return in 3 years from this ULIP. After 8 years being in this policy, I just received capital with little more money.
When I enquired with other friends, they also had made several mistakes while taking Insurance.
Let us look at common mistakes you may do while taking insurance.
1. Insurance & Investment as same
As said before, I understood my own mistake while taking ULIP. All insurance policy illustrations will come up with investment returns of 4% and 8% only as per IRDA.
Remember that Insurance is a risk protection tool and investment returns are not priority, therefore they try to give some returns at the end of the insurance period. RBI interest rates also got reduced in line with inflation in India. Therefore, the investment returns from insurance also had gone down to less than 6%.
If you consider inflation which is around 6-7% as per RBI, your investment returns have inflation risk. For example, if a product costs Rs.100 in this year and after a year this may become Rs.107 due to inflation. Guaranteed returns of less than 6% in a year is not going to beat inflation itself and you may not be able to buy that product.
Is there a solution? Remember that insurance is not an investment tool, and it is just savings. Consider a proper investment product like mutual funds or stocks for better returns.
2. Expecting Guaranteed Income
You have already seen how guaranteed income inflation risk in it has based on returns.
Point to note here is that it is after 15 to 25 years you are going to get as the maturity amount.
Most of the time you will be asked by the insurance agent or the relationship manager in the bank, “How much payment you can make in a year?”
Say you agreed to make 50,000 in a year and the policy has tenure for 20 years. At the end of 20 years, you would have made payment of 10 lakhs and the policy will have maturity amount of close to 20 lakhs.
Considering money depreciation over such a long period due to inflation, the most important question you should ask is, “Would these 20 lakhs be enough after 20 years?”
If you had made the same amount in mutual fund at 12% equity benchmark returns, you may have 40 lakhs. Double of what you get in insurance.
3. Term Insurance with Maturity
If you need an insurance, you need to take Term Insurance first.
Most common mistake asked by everyone is, “what is the maturity amount?”
You may not even check if the returns are enough or not, but something should be provided in return if you take an insurance policy. This is the exact reason why insurance companies had come up with Term insurance with maturity.
Recently, for one of the customers who is aged 40, we provided pure term insurance with 1 crore coverage. Premium worked out, close to 48,000 per year, as he was overweight, and he wished to make all the premium by his age of 60.
Then he asked for return of premium in this term insurance. Premium for the same policy worked out to be close to 1.25 lakhs for the next 12 years. He will be getting the premium he made after 20 years only.
Point here is, can he make 75,000 in this year and for next 12 years. Instead, if he can make these 75,000 payments into mutual funds or stocks, he can make even more bigger returns than return of premium after 20 years.
This is suitable for people, who are denied pure term insurance due to weight or insufficient income proofs etc.
Think twice and work out before opting for this policy.
4. Insurance for important financial goals – child education & Retirement
If you take up a child insurance policy before 3 years, it is easy to get maturity amount for his/her higher education. When you take up a child policy around 5 or later, it is difficult to get maturity amount at the right age.
Further, if you need higher corpus, you end up paying higher premium.
Better choice as I keep repeating is to choose investment products like mutual fund. You can start small monthly investing via SIP (Systematic Investment Plan), and this can help in accumulating a bigger corpus for any financial goals. As your age and experience increase, you can increase your investment amount easily.
Same applies to retirement policy as well. At your 40s you will have many financial commitments and at that time it is difficult to allocate bigger premiums for retirement policy. Hence you lose out to your focus on retirement.
5. ULIP as Mutual Fund
I was asking a client to invest in Mutual funds. He said he is already doing, so I asked him to share the fund name.
He quickly said that he will be paying only for 5 years, and further payment is not required.
If you are sold something which has lock in period of 5 years, then it means it is an ULIP policy.
NAV or Net Asset Value is the unit value in Mutual Funds and ULIP
Fund names like Pure equity, Mid cap, Debt, Balanced etc. are also similar to Mutual Fund and ULIP
NAV changes based on market condition.
Mostly in Banks, ULIP is sold as a better alternative to mutual funds and sometimes it is sold as both are same.
ULIP should be continued for the entire tenure and then only you end up getting better returns. You need to choose equity again for better returns as most of the initial investment amount will be deducted for Fees & Charges. Fees & Charges may go up to 10% in the initial 3-5 years.
Further, all insurance companies like SBI, ICICI, HDFC, Kotak etc., has banks and presence in Mutual Funds.
From diversification point of view, this may be suitable for someone who has already invested and accumulated bigger corpus in mutual funds and stocks.
So be careful where are you want to invest
6. Insurance as Tax saving product
The most common mistake everyone does is to take a life insurance product purely for tax saving purpose. Section 80C has limit of up to 1.5 lakhs, and I have seen many taking insurance purely for this tax saving.
First of all, you need to take Term Insurance which will also get covered under Section 80C.
Remember that tax saving limit is just 1.5 lakhs, and you can show home loan principal, Post office deposits, Tax saving bank deposits, Tuition fees, Tax saving Mutual funds etc. that come under this limit.
7. Buying Insurance for emotional Reasons
Most of the time we buy things emotionally and justify logically. It applies to insurance too.
Have you encountered someone in your family, friends or at least in the bank to take up an insurance policy for your child or retirement. It is easy to sell these, as these two are emotional.
I have my friend who has taken several policies as he can’t say NO to his relatives.
Logically, you can give reason like, “You will get some amount which is going to be helpful in the future”.
Logically again, you should always think if this investment will bring in better returns in the future.
8. Having insufficient coverage
Having insufficient coverage is a big mistake.
If you go with traditional insurance policies, you will end up taking 5 or 10 or 15 lakhs policy. There was a client who had loans worth 25 lakhs and his life insurance cover were just 10 lakhs. After his sudden demise, his family was forced to settle the loans with the accumulated investment corpus.
If he had taken term insurance with higher coverage, it could have been a big financial support. Also, term insurance is going to cost less compared to any other traditional insurance products or ULIP.
Same applies for health insurance coverage as well. If you have the base policy of 10 lakhs and if you are living in tier 1 or 2 cities, it is better to take top up policy with coverage of 20 or 30 lakhs. The premium will be much lesser in top up policies.
9. Not having separate health insurance cover
If you are working in a corporate and have group insurance cover, still you need to have separate health insurance cover.
Health insurance companies will provide cover only when you are in good health condition.
Group insurance companies may change once in a year or two and you will not have continuity.
One of the customers had switched company and he was in 10 days break. During that time, he met with an accident, and he was forced to make all the payments from his own pocket. A separate health insurance would have solved this issue easily.
Also, you may end up getting lifestyle diseases like Asthma, Blood pressure, Cholesterol or Diabetes and after 50 if you retire or quit your company, you may not get any health insurance cover.
So, best choice is to get sufficient health insurance coverage for yourself and for your entire family.
I have run you through the 9 common financial mistakes. Share with me if you had done any other mistake while taking an insurance.
About the Author
Ganesan Thiru is an Author, Stock Market Profit coach, Research Analyst who has trained more than 10,000+ people in stock market investments & had done 90+ webinars in the last 15+ months He has 1800+ people in his Private Facebook group “Unlimited Wealth” & active in social media. His mission is to inspire one million people in getting financial freedom.