Tuesday, January 28, 2014

The good, bad and the ugly – in Insurance offerings

Jan –Feb- March is the time most of us look at investing for tax saving and this is the same period when the insurance companies are hyperactive in the media with their advertisements- positioning their offerings as tax saving  investment offerings.  

This note is basically to reiterate my views on the way we must approach the insurance products.

Insurance must be seen basically as means to mitigate risks.  All of us face risks of untimely demise, of an accident, or health problems, of asset loss through theft or through fire, floods earth quake etc. In order to mitigate these risks, we need to buy the following types of insurance –these are the GOOD policies that I recommend:

  • Term policy – this is the cheapest insurance plan with a high cover – it mitigates the risk of an untimely demise. If the insured dies during the specified policy period, the beneficiary gets the death benefit. If the insured lives through the specified policy period, there is no payout and the policy ceases. I would think that this is a mandatory policy to take and I would recommend that every earning person who has financial dependants should take this policy.  The premium is surely a cash outflow- but this is cost of risk mitigation. The premium that you pay will give you tax benefits under section 80C as well.
  • Health insurance policies – all of us believe we are healthy – but there is the underlying risk of a health scare and hospitalisation, medical bills and consultation fees. Health insurance plans mitigate this risk and this is required if you do not have a health plan through your employer. There are various kinds of health plans depending on the life stage you are in – there is the individual health policy, family floater policies, and senior citizen health policies (till 65 years of age). This too is mandatory for everyone who has financial dependants and cannot afford a health event in the family. The premium paid up to Rs 15K to Rs 20K gives tax benefits under section 80D.
  • Motor Insurance – Roads are treacherous in India – you run the risk of an accident each time you go out. Nothing may happen to you – but you could accidentally kill someone on the road. Also your vehicle could be stolen.  These are the risks that a motor insurance covers –this insurance too is mandatory (if you own a vehicle). The premium paid here does not give you tax benefits.
  • Insuring your assets like home (from fire, floods, earth quake etc), Jewels (from theft) is also surely recommended.  The premium paid here too does not give you any tax benefits  - however, if the asset gives you a taxable income (like rent), then you can show this premium as an expense.

Beyond these four categories of insurance, every other insurance is an UGLY insurance. Not BAD but UGLY. Unfortunately for us, most policies that are advertised are in this category. We tend to see insurance as an investment tool – it is not. We tend to see insurance as a tax saving tool – it may be – but there are many better tax saving tools (PF for example).

The policies that are UGLY come in many names  - some of the names are Guaranteed income plans, Investment plans, Retirement plans, Child benefit plans, Tax saving plans, Unit Linked plans, Endowment plans, Whole life insurance plans etc. All these policies have one thing in common – they offer investment solutions beyond risk mitigation. When you sign up on these policies, it is like signing up on an FD  with a return of around  4-5% - it is not visible to you – but that is the truth. These policies are meant for the financially illiterate – those who do not understand the logic of a return on investment – it is not meant for you.
So please avoid all these UGLY Policies and make sure that you sign up for the GOOD Policies.

There is lot more content on this topic in my book - "How to get rich and retire early" . In case you want it - you can order it at http://bit.ly/1fOYffV