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How much life cover do I need?

by Money Puzzle   ·  April 5, 2019   ·  

How much life cover do I need?

by Money Puzzle   ·  April 5, 2019   ·  

To answer this question first lets ensure that you know why you want to take up a life insurance policy. The first question you need to ask yourself, am I making an investment? If the answer to your question is yes, then you need to go and read the basics on insurance over here.

If you have read the basics section or if your answer was no, then you are already aware that an insurance policy is not an investment. The foremost reason for taking an insurance policy is not to save money that you will get back later in life or to make an investment with your child as a nominee. The primary reason for you to take on an insurance policy is to ensure that your loved ones are financially secure in the unfortunate event of your death.

Hence, the aim should be to get maximum sum assured for a minimum payment. The best way to achieve this goal is through a term insurance policy. A term insurance policy acts like a cover for the contingency of death and does not have any investment component attached to it. This is the best option to get a large cover at a low cost.

Step 1 – Check your annual income – sum assured between 10-20 times your annual salary

Step 2 – Check your annual expenses – ensure they are adequately covered for at least a decade or two

Step 3 – Check for any liabilities that may be outstanding, ensure that the insurance plan covers those

Step 4 – Check the insurance company’s claim settlement ratio – with your advisor or media or IRDA

How large should the cover be? Typically, it’s said that the life insurance cover needs to be at least 10-20 times your annual income in order to see your family through to retirement and beyond. Thus, one of the variables that will decide the amount of your life cover is your annual salary. Assuming you are starting early in life, you should think of taking a higher multiple of the salary as a sum assured. This is simple logic: if you are 30 years old – it means you have at least another 30 years of earning capacity. The life insurance policy is taken to cover for the eventuality of your death.

If something were to happen to you in the next 5-10 years, your spouse and children will need many years of financial security. Hence, a higher cover is better. Now if you have procrastinated and are taking a life cover at 40-45, you won’t need as high a multiple of your annual salary given that your children may be half way through their education already and your spouse too is now older. Plus, you would have some savings to rely on as well.

What next? Once the age and salary factor is worked out, have a quick look at your necessary monthly expenses and multiply that with 12. Ensure that the life cover you take can comfortably cover the annual expenses by at least 10-15 times if not more. Next see if you have any loans outstanding, education loan perhaps or a personal loan mistakenly done to fund your wedding? The life insurance amount should be able to cover these repayments too so that your spouse or children are not burdened with such payments.

Now if you don’t have any young dependents and are say only looking after your elderly parents, while you still need to have a life cover, it needn’t be too high. Your parent’s expenses are unlikely to compete with that of a growing child and secondly, there life span too will not be as long.

Lastly, there is one more factor that you need to consider which is external to your requirements and that is the claim settlement ratio of the life insurance company you are opting for. This information is not readily available on any of your online insurance comparison sites. You can check with your advisor if you have one or alternatively go through media reports such as this one to see the claim settlement record of the life insurance company. Clearly, you must go for the one with a better settlement ratio, at the same time don’t fall for a very high annual premium.

Yes, its quite an exercise to undertake, but once its done you will feel more at ease knowing that your family is adequately taken care of in terms of their financial security in the unfortunate, unpredictable event of your early death. Doing your little bit of homework now can save your loved ones a lot of hardship later.

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