Life Insurance is one of the most important components of any individual’s financial plan. However, there is a lot of misunderstanding about life insurance, mainly due to the way life insurance products have been sold over the years. We have discussed some common mistakes life insurance buyers should avoid when buying insurance policies.
1. Underestimating Life Insurance Requirement
Your insurance requirement is a function of your financial situation and has nothing do with what products are available. Many insurance buyers use thumb rules like 10 times annual income for cover.
Some financial advisers say that a cover of 10 times your annual income is adequate because it gives your family 10 years worth of income when you are gone.
But this is not always correct. Suppose, you have 20-year mortgage or home loan. How will your family pay the EMIs after 10 years, when most of the loan is still outstanding?
Suppose you have very young children. Your family will run out of income, when your children need it the most, e.g. for their higher education. Insurance buyers need to consider several factors in deciding how much insurance cover is adequate for them.
- Repayment of the entire outstanding debt (e.g. home loan, car loan, etc.) of the policyholder.
- After debt repayment, the cover or sum assured should have surplus funds to generate enough monthly income to cover all the living expenses of the dependents of the policyholder, factoring in inflation.
- After debt repayment and generating monthly income, the sum assured should also be adequate to meet future obligations of the policyholder, like children’s education, marriage, etc.