Life Insurance Cover – Does It Really Need to Be 20 Times Your Salary?

The financial year 2020-21 saw an insurance penetration of 4.2% in India, of which 3.2% accounted for penetration due to life insurance. Given this, one question that the common man must answer is “How much life insurance coverage is required?”.

This question can only be answered according to the specific facts and circumstances surrounding each case. The cover should sufficiently meet all financial liabilities and should also provide for the family as they get back on their feet. They should be kept in mind when choosing the term insurance coverage. A term insurance calculator is perhaps the easiest way to determine the insurance cover that you should buy. It takes into account multiple factors before such a calculation. This article delves into some aspects that should be considered when answering this question.

Rules of term insurance cover

Before we begin, let us look at the general rules of calculating term insurance cover. The rules given below are generalized and make the best starting point as you determine the insurance coverage you should purchase. These rules are extensively used in the purchase of life insurance policies. They can therefore be considered basic term insurance calculators.

The income replacement model

This is a rule that makes sure the life insurance cover opted for replaces income for the rest of the life of the nominees. The rule is simple; the term insurance cover should be 17 times the salary of the policyholder. Thus, if you earn about Rs. 5,00,000 (Rupees five lakhs only) annually, you should opt for a cover that is 17 times your annual income – Rs. 85,00,000 (Rupees eighty-five lakhs only). This amount will act as a replacement for the income of the policyholder, which can be invested for greater and steady returns.

The sliding scale model

Another rule acts as a term insurance calculator for the general public. It is a variation of the income replacement model. The difference here is that the policy holder’s age is taken into account. The ground rule of this model is that the younger the policyholder, the greater the number with which the annual income is to be multiplied (the multiplier). This rule also intends to replace the income of the policyholder. The multiplier, in this case, is 20 for policyholders who are in their 20s. The reason behind this increase in the multiplier is that younger policyholders will see income gradation in the course of their life, and the term insurance cover should account for such raises. Similarly, if the policyholder is older, in all probability, they must have cleared most, if not all, their financial liabilities and have a steady income that will not exponentially rise.

The relief insurance model

The relief model is not the official name of this model of term insurance calculator. However, it is the name that best describes the intent behind this model. This rule states that the term insurance cover should be five to 10 times the current annual salary of the policyholder. Thus, a policy holder earning Rs. 6,00,000 (Rupees six lakhs only), should opt for a term insurance cover that is either Rs. 30,00,000 (Rupees thirty lakhs only) or Rs. 60,00,000 (Rupees sixty lakhs only). The intention is not to replace the policy holder’s annual income but to ensure that the financial liabilities can be cleared and that the nominees are financially secure during their period of grief. The cover is meant to act as a relief, not a source of income.

Affordability should not be overlooked.

Policyholders often find themselves opting for huge term insurance covers because of their love for their family members. While this is an understandable behaviour, it should not be blindly encouraged. The premiums paid periodically depend on the term insurance cover, which should be kept in mind as you use term insurance calculators. If these premiums are not paid multiple times, there is a risk of termination of the life insurance policy itself, leaving your family with no security. The goal of ensuring that your family is financially secure after your demise is completely destroyed if you are unable to pay for such security. The simplest way to ensure that affordability is not a crutch is by determining the maximum amount you can periodically pay as premiums; this will help calculate the cover within your budget.

What should the minimum cover be?

This is a question that should be answered as you calculate your term insurance cover. It will give you a picture of the amount required to meet the necessities after your demise. In simple words, the question here is, “What are the essential expenses that will remain upon your demise?”. This could take the form of different liabilities, such as those of a financial nature in the form of loans that need to be paid back. Alternatively, it could relate to expenses relating to your child’s education or further studies, or other debts. These form the bare minimum that should be covered by the life insurance you’ve purchased. In the event that you cannot afford the minimum cover arrived at, ensure that your cover is as close to the minimum cover that has been calculated.

The intention behind the policy

The minimum coverage accounts for the major portion of your term insurance coverage. If you can afford coverage over and beyond the minimum that has been calculated, this question will apply to you – “What do you seek to achieve with the coverage amount?”. Or otherwise, “What is the intention behind your policy?”. The manner in which you reply to this query will ascertain the extent to which the cover for your term insurance needs to be extended. These goals could be income replacement for a particular number of years, providing for other dependents, maintaining the lifestyle you lived, etc. These goals will determine the entire cover you should opt for while purchasing a term insurance policy.

Revisiting the rules of term insurance cover

We’ve already seen the general rules that act as a basic term insurance calculator; it is time to look at the revised version of these rules. The revision is important as it takes into account variables of life.

Calculating minimum cover

If you are looking to calculate what the minimum coverage of your term insurance should be, the factors determining the same should be the financial liabilities you have and the intention you set for your cover. These factors will help you set a realistic cover that is more affordable and is better than following a straight-jacket formula to calculate term insurance cover. In the event that your income increases, another policy may be taken out, or the existing coverage can be increased, depending on the terms of the insurance policy.

Calculating an income replacement

If your intention is that your family receives the equivalent of your income for a particular number of years after your demise, the logical way to calculate the cover is the multiplication of your annual salary with the number of years for which you would like to provide such income.

The duration of the policy

Term insurance policies have a fixed duration (term). It is therefore pertinent that policyholders consider the duration for which the insurance cover should exist. This determination can be arrived at by considering the very same factors that helped calculate term insurance cover. The financial liabilities that exist, the number of people the cover should provide for, the goals that should be met, etc. These questions will give policyholders an idea as to how many years the cover should stretch for. If you have no financial liabilities, and if your spouse is earning and your children are earning too, you wouldn’t need to have an insurance cover that stretches for a long duration. This will not be the case if the situation is otherwise.

Consider professional help for calculation

Even with the above guidelines to help calculate term insurance cover, it can prove to be a cumbersome and overwhelming task. If that is the case, you can reach out to professionals to calculate your term insurance cover. Alternately, you can also use term insurance calculators that are available online. All you would have to do is fill in the answers to the questions raised, and you will receive the calculation of the term insurance cover that is most ideal for you.

A few important points to remember

In conclusion, the following points should be borne in mind as you decide the term insurance cover that works best for you.

• Any term insurance cover is always better than none.
• You can increase your coverage with time, don’t let your current limitations restrict the scope of future financial security.
• Cover your essentials before you begin setting goals for the coverage.
• Different providers of insurance offer different conditions and terms. Always read, understand, and consider these terms, to be aware of the exact benefit your nominees will receive.
• If you feel overwhelmed, get professional help. Do not sweat this decision, as it has to be made and should not be put off for want of time or expertise

Disclaimer:

*Tax benefits are as per the Income Tax Act, 1961, and are subject to any amendments made thereto from time to time
The article is meant to be general and informative in nature and should not be construed as solicitation material. Please read the related product brochures for exclusions, terms and conditions, warranties, etc. carefully before concluding a sale.
Make responsible financial decisions. Consult with your financial advisor before making any decisions on insurance purchase.

Suggested Plans

Bharti AXA Life Guaranteed Wealth Pro

• A non-linked, non-participating individual savings life insurance plan
• Flexibility to choose the payout structure
• Multiple income options
• Option to receive tax free income beginning from the second policy year itself
• Option to get lifelong income along with life cover till 100 years of age

Bharti AXA Life Shining Stars

• Non-linked, non-participating limited pay endowment Life Insurance plan
• Designed to take care of the financial needs of your child.
• Flexibility to opt between 2 Maturity Payout Options
• Flexibility in Policy Term/Premium Payment Terms
• A great short-term investment option for a child insurance policy.

Bharti AXA Life Super Series

• A non-linked non-participating individual life insurance savings plan
• Range of investment duration and returns
• Guaranteed money back benefits (provided policy is in force and all due premiums have been paid)
• Income tax benefits (as prevailing tax laws in India that are subject to changes)