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A farmer plans for a drought or flood. A pilot plans for an emergency landing. A bank provisions for NPAs and bad debts. Payment companies plan for cyber threats… The list is never ending. Risk is an inevitable aspect of life. Acknowledging this reality, our objective shifts from loss aversion to positioning ourselves managing risk. We plan for our retirement or any uncertainty during our life.
An individual should plan according to his needs and goals. Every individual goes through different phases in life and makes investments depending on whether the person is risk averse or risk seeker. Every generation experiences a different lifestyle and prefers a different investment style. Some look for wealth creation, while some others invest for children’s future. Another set of investors focus on retirement planning.
Investment means something in which you put our money and you expect it to grow over the time. There are various types of financial investments such as debt instruments, mutual funds, stocks, bullion, certificate of deposits, commercial papers and other instruments which multiply your money.
Sometimes, investors buy insurance policies to meet their financial goals. Sometimes, people find it convenient to buy an insurance product with investment elements in it like a Ulip to take care of both the needs – insurance and investment.. But an investment product and insurance product serves different purposes. An investment product like a mutual fund helps you to grow or create wealth to meet your goal, whereas an insurance plan is meant to protect you against an unforeseen eventuality.
When you mix your insurance and investment needs, it results in inadequate life insurance cover and lower returns on your investments. But by doing it, we are challenging the sole purpose of life insurance (proper cover) or any investment scheme (attractive returns).
The tendency to mix insurance and investment needs should be dealt with. Otherwise, it will result in poor returns and insufficient life cover. It may not make sense now, but it may definitely make sense at a later day in your life.
Let’s clear our basics first. Life insurance is not an investment. There is no investment in insurance that will give returns on the amount invested by you. The irony of “Life” insurance is that your nominee will reap the benefits of it after your “death”. Well that brings to our second question, which is, why to buy life insurance if I am not getting any return out of it?
Imagine Mr. K is the sole bread earner for his family. He goes for a business trip to a foreign country. Mr. K gets stuck there for some time. So, Mr. K will send some money for proper functioning of his home and other household activities. What if due to some unfortunate event, Mr. K never returns home? Will the money he sent earlier be sufficient to take care of the family needs forever? Who will now pay off the loans which Mr. K has taken? Though the emotional gap will never be filled but is there any option to fill the financial gap?
And that brings us to the third and most important question of insurance – that is, what is the adequate insurance cover for an individual?
A simple thumb rule that everyone follows for calculating their insurance cover is income multiplier of 10. Well, it’s an outdated rule, considering the economy and inflation into account. Also, this rule doesn’t take care of previous insurance policies, any savings plan or stay-a -home parents. Though it’s a commonly followed rule but it doesn’t take a deep dive into your family needs and other things. There should always be some cushion for any debts, mortgage, education and future for your loved ones. I follow the DIME rule to calculate the human life value; Debt, Income, Mortgage and Education. Adding up the four things together gives us a more comprehensive number.
Source: Economic Times
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