Modules for Personal Finance
Translate the power of knowledge into action. Open Free* Demat Account
The Beginner's Guide to Life Insurance
You probably chanced upon books with cheesy titles like “Life insurance for dummies” or “Life insurance explained for dummies.” Perhaps that has made you wonder: What is life insurance, anyway? This chapter will attempt to help you understand the basics of this important financial solution. Let’s get started.
Life insurance: An example
Remember Subash from our earlier example? His father, you’ll recall, retired from his job. A few years later, misfortune struck, and his father passed away after a sudden illness, leaving behind his spouse and three children (including Subash) as survivors. Now, Subash was quite well off, but he had his own family to look after. His siblings were not yet employed, and his mother had no pension to fall back on. For anyone else in their place, this may have been a low blow financially.
But Subash, who had gotten really good at financial planning, had made a smart move some years earlier. He had purchased a life insurance policy in the name of his father, essentially insuring his life. As a result, when Subash’s father suddenly passed, the insurance policy proved to be a safe haven and gave the family a much-needed protective net.
This is how life insurance can be beneficial. And now that you have a fair idea of the practical side of this protective cover, let’s get to know the fundamentals.
What is life insurance?
In the simplest of terms, life insurance is a legal contract between an insurance company and a party seeking insurance. The insured person pays the insurance company a premium. In return for this, the insurer offers financial support when the insured event occurs. In the case of life insurance, the insured event is generally the death of the insured person. When the event occurs, the insurer generally pays out death benefits to the nominees or legal heirs
How does life insurance work?
So, as we mentioned in the previous section, you need to pay a premium to the insurer. This premium can be a one-time payment, or it could be periodical, payable at monthly, quarterly, semi-annual or annual intervals. The policy is generally valid for a specific term. This premium is allowed as a deduction under section 80C of the Income Tax Act.
If you are the life insured under the policy, you will need to assign a nominee who will receive the benefits after your passing.
Life insurance plans typically pay out two kinds of benefits:
- Death benefits, if you do not survive the policy term
- Maturity benefits, if you outlive the policy
Some plans only offer death benefits. These are known as pure protective plans.
How is life insurance useful?
Life can pan out in uncertain ways, and for people who have lost the major earning member of their family. But when a life insurance policy comes into the picture, the death benefits from the plan can be very useful for the survivors. Here are some scenarios where the death benefits or the maturity benefits can be helpful.
- If you’ve just bought a new house and you’re in the middle of repaying your housing loan, your family may find it difficult to keep up with the payments in the event of your passing. But the payout from a life insurance plan can help your spouse or your children pay off your debts.
- If you have children of school-going age, the payouts from the life insurance plan can help fund their college education.
- Life insurance can also help your family pay for the costs of a funeral.
- Above all, it helps your family fall back on an inheritance.
What are the types of life insurance?
Depending on the type of cover they offer, life insurance plans can be any one of these types.
Term plans are the most basic and affordable form of life insurance. They only provide a life cover and they offer no additional savings or benefits. Consequently, the premiums are also very affordable.
Endowment plans are just like term plans, except that they offer one added advantage – maturity benefits. They pay out the sum assured on death or survival, so there’s a guaranteed savings element.
Money back policy
In a money back policy, you receive periodic payments over the term of the policy. Basically, this is a portion of the sum assured. It is paid out at regular intervals, and if you survive the policy term, you’ll receive the rest of the sum assured.
Whole life policy
A whole life insurance plan, as the name indicates, offers you a cover that lasts throughout your life. On paper, this is often represented as coverage till 99 years of age.
Unit Linked Insurance Plans (ULIPs)
With ULIPs, you receive the dual advantage of both insurance and investment. They invest your premium in the stock markets, making them ideal choices for risk-friendly investors who seek a protective cover.
Well, this is a basic preview of what life insurance is all about. But what about the other kinds of insurance? Like insurance for your health or for your home? That’s what we’ll find out in the next chapter, which deals with general insurance.
A quick recap
- Life insurance is a legal contract between an insurance company and a party seeking insurance.
- The insured person pays the insurance company a premium. In return for this, the insurer offers financial support when the insured event occurs.
- This premium can be a one-time payment, or it could be periodical, payable at monthly, quarterly, semi-annual or annual intervals.
- If you are the life insured under the policy, you will need to assign a nominee who will receive the benefits after your passing.
- There are different types of life insurance plans, like term plans, ULIPs, whole life plans and money back plans.