HOW TO CALCULATE REQUIRED TERM LIFE COVER

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WHY WE NEED TERM INSURANCE & HOW TO CALCULATE SUM ASSURED IN TERM INSURANCE?

A type of life insurance policy known as "term insurance" offers protection for a predetermined amount of time, typically between 10 and 30 years. A predefined death benefit is paid to the beneficiaries in the event that the insured person passes away within this term, providing loved ones with financial security.

Compared to whole life or endowment policies, this insurance is especially tempting because of its cost, as it offers large coverage amounts at very cheap premiums. Term insurance is mostly required to safeguard dependents' finances by paying for necessities like housing and other living expenses, schooling, and outstanding loan like personal loans or mortgages. For families, it also acts as a vital source of income replacement, enabling them to maintain their level of living while the major earner is not around.

Furthermore, term insurance provides the freedom to modify coverage in response to evolving financial demands and life situations. All things considered, knowing that one's family will be financially supported in the event of unforeseen circumstances is a comfort that comes with owning term insurance.

Factors affecting the premium:

The premium you pay for term insurance is influenced by a number of factors. The following is a summary of the main variables that affect your term insurance premium:

i. Age

ii. State of Health

iii. Drinking and Smoking

iv. Amount of Coverage (Sum Guaranteed)

v. Term of Policy

vi. Gender

vii. Fitness and Lifestyle

viii. Medical History of the Family

ix. Accessories or Riders

Knowing these things makes it easier to plan ahead and select the best term insurance at a reasonable cost.

Determining the Amount of Premium as per your needs:

When calculating your term life insurance premiums using the “Needs-based approach” to include expenses and outstanding loans, we focus on determining how much life insurance (the insurance amount) you actually need to cover all your financial obligations in case of unfortunate event. This approach ensures that the insurance amount is enough to support your family and cover your debts.

Here’s how: Step-by-step process for a needs-based approach to term life insurance

1. Evaluate financial obligations and expenses

Start by listing all the financial obligations your family will need to meet in your absence. These include: -

Outstanding loans: These are loans that will need to be repaid in the event of your death. This may include: -

· Home loans

· Car loans

· Personal loans

· Education loans

Future Living Expenses for Your Family: Calculate the annual income your family will require to sustain their current standard of living. Take inflation into account for living expenditures up to the life expectancy of your spouse (85 or 90 years), and you need to find the Net present value of all those cashflows. (Consult a Financial advisor in case of non-familiarity with the formula’s or calculations)

· Rent, utilities, food, clothing, medical costs, general household expenses, and other necessary expenses can all be considered living expenses.

· Children’s Education: Estimate the future value of children’s education, including tuition, college fees, and other related expenses.

· Emergency Fund: Include up to six months to cover financial expenses in case of emergency.

2. Calculate Total Coverage (Insurance Amount)

Add together all of your financial commitments, i.e. life expectancy - current age, to find the amount of life insurance coverage you require.

Example of Calculating Total Coverage: -

· Outstanding loan: 30 Lakhs

· NPV of Living expenses for 20 years: 25 lakhs

· Children's education fund: 10 Lakhs

· Emergency fund: 5 Lakhs

Total insurance required: 30 Lakhs+25 Lakhs+10 Lakhs+5 Lakhs = 70 Lakhs. This is the amount of coverage required to financially protect your family in case of your death.

3. Review your existing savings or investments

Subtract any savings or assets that your family may already have to meet these expenses if the insured feels the premium is expensive and unable to pay that premium due to financial circumstances.

This could include: -

· Savings accounts

· Fixed Deposits (SD)

· Mutual Funds or Shares

· Other investments or assets

For example, if you have savings and investments worth ₹20 lakh, you can reduce your essential insurance coverage by that amount.

Calculate the adjusted coverage:

If your required coverage is ₹70 lakh and your savings are ₹20 lakh, your adjusted insurance coverage should be:

₹70 Lakh (Total sum insured) - ₹20 Lakh (Existing savings) = ₹50 Lakh.

4. Choose the Coverage Period

The next step is to decide how long you need coverage for. Ideally, the coverage should last until your major financial obligations (such as a mortgage or your children’s education) are met or until you retire.

For Example - If you are 35 and plan to retire at 60, you can choose a 25-year term. Or, you can choose a term based on the length of your longest financial commitment (such as the length of your mortgage or your children’s education).

5. Add Riders for Additional Protection

To improve your coverage, try adding Riders. These include: -

· Critical Illness Riders: Provides a one-time payment if you are diagnosed with a critical illness, such as cancer or heart disease.

· Accidental Death Benefit Rider: Provides an additional amount if you die as a result of an accident.

· Premium Riders Waiver: Waives future premiums if you become critically ill or disabled. These Riders will increase your premium but provide additional financial protection.

6. Premium Estimation for Coverage

Once you have determined the amount of coverage and the period of insurance, use the “Online Premium Calculator” to find out your estimated premium. This calculator allows you to enter: -

· Your Age

· Insured Amount (in this example ₹ 50,00,000)

· Policy Period (e.g. 25 years)

· Riders (Optional)

Example: Let’s assume the following values ​​for a 35 year old non-smoker:

· Basic Premium for a sum insured of Rs.50 Lakhs: 12,000 per annum (for 25 years).

· Critical Illness Cover: 2,500 per annum.

· Accidental death rider premium: 1000 per year.

Total premium = 12,000 (basic) + 2,500 (critical illness) + 1,000 (accidental death rider) = 15,500 per year.

7. Annual review

Every year, especially if your financial condition changes, review your coverage and premiums.

For example, you might need to give up the policy and purchase a new one to fulfill your financial responsibility if your children have graduated from school or your mortgage has been paid off.

The final formula for calculating premiums for need-based term insurance is as follows:

1. General Financial Need = Credits Future Living Expenses, Education Expenses, Emergency Fund.

2. Subtract Existing Savings and Investments = Total Financial Need - Existing Savings.

3. Calculate your premium using an “Online Premium Calculator” or insurance company using the guaranteed adjustment amount.

Conclusion

This “needs-based approach” ensures that your term insurance policy will provide adequate financial security for your dependents, taking into account any outstanding loans, future expenses, and financial goals.