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Life Insurance Planning Mistakes People Make

There are countless disgruntled life insurance buyers out there who bought policies without fully understanding their features

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It's not a secret that Indians are heavily inclined towards purchasing Life Insurance. According to a recent report by Aegon Life Insurance, life insurance is the second most preferred instrument for Retirement Savings (behind savings accounts) for most Indians. In fact, 52% of Indians reportedly save in Life Insurance for their retirement and for other long term financial objectives. It's unfortunate, then, that many of us succumb to a few highly avoidable mistakes related to Life Insurance. As with anything else, awareness is the first step. Begin by avoiding these all too common follies.

Not Understanding What Life Insurance Really Is
Although touted as a savings tool and even an investment avenue, it's important to know that Life Insurance is really meant for transferring the risk of your income loss (due to death or disablement) to the insurer. Everything else is just window dressing. More often than not, Life Insurance (especially traditional policies) represents a sub optimal investment. Even so called market linked policies (ULIP's) tend to outperform other investment avenues such as Mutual Funds, due to their high inbuilt charges.

"The primary purpose of Life Insurance is to cover the risk associated with loss of income of an earning member", says Priya Sunder, Director of Bangalore based PeakAlpha Investment Services.

Not Considering The Most Important Aspect
What's the most important aspect of your Life Insurance Portfolio? Many would answer - "Returns". However, this is incorrect. The most important aspect of your Life Insurance portfolio is the cumulative "death benefit" across your policies. Unfortunately, most people have very little awareness of this number.

If you're not careful, you may wind up as one of those people who pay lacs of Rupees of premium per annum - only to be saddled with a mediocre amount of "death benefit" because they opted for the wrong kind of policies.

"If you don't need life insurance, there is no need to invest in products such as term plans, ULIPs or endowment plans because all of these plans have mortality costs, an expense that is unnecessary if there is no requirement to cover risk", says Sunder of PeakAlpha.

Not Disclosing Information
One of the principles of Life Insurance is "uberrima fides" or "utmost good faith". This means that both parties (the insurer and the insured) are required to disclose all relevant information to each other.

In your urgency to get your policy issued, you might end up withholding material information such as your medical history, your family's medical history or your smoking habits. Even worse; your insurance agent may be in a hurry to have your policy issued for his own benefit. Doing so could lead to your death claim getting rejected at a later date, when your claim gets investigated. What's a waste of time and money that would be, not to mention that it would also jeopardize your family's wellbeing at a time when they would be under duress in any case.

"By not disclosing information, you run the risk of the claim being dishonored at the time of death or medical treatment. Whether it is life or medical insurance, you need to come clean about your health condition, else the premiums that have been paid over the years comes to a naught", cautions Sunder.

Not Understanding The Policy Features
Before you purchase, read! The policy features, that is. Seemingly little things like minimum number of premiums payable, lock in periods, surrender value, when you'll receive the maturity proceeds, till when your coverage lasts etc. are important bits of information about your policy that may influence your buying decision. There are countless disgruntled Life Insurance buyers out there who bought policies without fully understanding their features, only to realize later that they add very little value to their financial lives.

Buying Life Insurance To Save Tax
When it comes to saving taxes, better options exist compared to Life Insurance. Tax savings alone shouldn't be the driver of your decision to buy Life Insurance. Explore the entire gamut of possibilities before you make a decision. You may find that ELSS Funds (Equity Linked Savings Schemes) are more suitable for this purpose, as they have a higher potential to create long term wealth.

Sunder of PeakAlpha firmly believes that the need for life insurance must be established first before it is used as an instrument of tax planning. "If there is no life insurance need, mortality costs will eat into returns in ULIP or endowment policies. You are better off with ELSS or other forms of tax saving instruments", she advises clients.


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