Insurance planning lessons for 2010

Insurance is a highly misunderstood product and it's often bought and sold for the wrong reasons. At the same time it's a very important part of your life and you must know certain ground rules for making the right decisions in the New Year.

Importance of insurance planning
Many of us consider insurance just another investment for tax saving. Our day-to-day life is full of unpredictable risks for example loss of life, loss of income, critical illness, disability etc. Insurance planning means figuring out adequate cover against "insurable risks" and getting the maximum out of the premium you pay. Tax exemption is just another aspect of it.

Having the right insurance cover gives you peace of mind as it provides financial support in case of contingencies.   

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Life insurance is a replacement for your income. When your income ceases or falls insufficient either due to death, illness, retirement or a major goal such as children's education or marriage, insurance fills in the gap. On your death, the money received from term insurance policies will provide a corpus with which the family can pay off debts, convert dreams to reality and still lead a comfortable life. You must have seen cases of non-working mothers or non-earning family members getting insured. It goes against the fundamental principle of insurance.

Therefore it's important that the breadwinner covers the risks to his life and income, so that his family's quality of life is not compromised after he is gone.

Calculating life insurance needs is not a simple exercise but you must evaluate your current and required cover in 2010 and take corrective action. Remember that each of us has our own lifestyle, goals, aspirations and dependents which may be completely different from the life situation for your friend or colleague. So what works for someone else may not work for you.

There are essentially three ways to calculate your insurance needs

a) Expense protection
Calculates the corpus required to take care of the family's future expenses and goals. Inflation diminishes the value of money and hence expenses need to be adjusted to inflation for calculation of protection required.  

b) Human life value
It is the economic value of an individual; the present value of all his or her future income. Setting aside the part of income one spends on oneself, the protection required through human life value calculates today's value of one's income for the years till his or her retirement.

c) Needs analysis
In this method you calculate your needs by considering each of your dependents and what financial milestones you want to achieve for them. The needs may range from child education, marriage to repayment of loans. Next you assess your current assets and investments and shortfall due to loss of life. This gap in income can be filled up by insurance.

Ideally, insurance must be taken to cover the working period in one's life. You take insurance to protect your dependents from the loss of your income; using the same logic, you take insurance for the time that the dependents are being supported by your income. Hence, it is advisable to take insurance till one's retirement. However, when insurance is taken for protecting and saving towards specific goals, then the tenure of the plan should match the years left for meeting the goal.

What type of products suit you?
Choosing a product will depend on the specific need and the life stage one is in. What is the final product you will choose? When there are multiple choices that match the need, it is the affordability that makes the final choice. Most importantly, individuals must be aware of the purpose of the insurance they are buying. They must know that life insurance products for investment and savings are structured for the long term and meant for someone who is earning and whose earnings are supporting his/her dependant(s).

To be able to prescribe the best insurance products for an individual or family, a financial plan is necessary. Any advisor needs an in-depth knowledge and understanding and proper prioritization of all aspects of your life. The probable duration of life, amount of security needed, present and future needs / shortfalls and post retirement requirements are also essential pieces of information to be collected. Knowledge of the "markets" / mutual funds and economic climate coupled with comprehension and application of HLV (human life value), expense protection, and corpus requirements for retirement help in prescribing an effective solution.

With the awareness of a need for proper financial planning on the rise, coupled with the plethora of insurance products available, it is imperative that you take any decision after doing your home work or engaging a competent financial planner.

In a nutshell

• It is very important that you are adequately covered as inadequate cover is equal to no cover at all.
• Insurance planning is the first step towards financial planning and financial planning should be the first step towards purchasing insurance. To advise an individual on his or her insurance needs, it is important to get a holistic view of the present and the future.
• Insurance requirement must be reviewed every two years or when there is a change in the family scenario, for example: the addition of dependants.
• The insurance requirement changes with every change in your life -- income, expenses, life style, members, liabilities and assets.