“If you want a thing done well, do it
yourself” - Napoleon Bonaparte
Akash
was extremely confused about choosing right insurance plan. All insurance
agents were offering different plans with claim of best for him. After our
office hours, Akash and I were having coffee. He is my college mate who works
in one of the leading IT sector company. Earlier regarding his doubts, he had
consulted multiple insurance agents but was never able to reach the final
conclusion. In a hope to get some help he put forward his doubts to me and from
here onwards our discussion started.
Endowment
Plan with term-plan equivalent premium, returns some lump sum money at end of
the tenure but covers much lesser risk
People often get confused between “insurance” and “Insurance linked Investment” and they often take wrong decision. Pure insurance policies are called term-plan. They are just like your car/motor-bike insurance. If some unforeseen event happens then your insurance company pays you else after completion of tenure they owe nothing to you. Realizing this discontent feeling of customers, all insurance companies have floated endowment plans. Under this scheme, they cover risk and also return lump sum money at the end of the tenure. Policy buyer feels very happy and they prefer endowment plan over term plan. Even your agents will always emphasis on endowment plan (why?).
Is really term-plan so bad and endowment plan so good? Let
us analyse a scenario
Mr. Shyam is a 25 year old working professional. According
to LIC term plan calculator he
needs to pay ₹14,478 per year for a 20
year plan for the risk coverage of ₹1 Cr. The Insurance Company promises to pay him ₹1 Cr in case of eventuality during policy holding period. Term
plans do not have any survival benefits and hence even after paying a total sum
of ₹2,90,000(20 X 14, 478) Mr. Shyam wouldn’t get anything at
the end of the tenure. At the same time, endowment plan promises to cover risk
as well as to pay lump sum but not at the same premium cost or same coverage
value. To avail the same risk coverage (₹1 Cr) LIC has an endowment plan which asks for whopping
premium amount of ₹4,89,793 per
year. If Mr. Shyam sticks to his earlier premium value then risk coverage will
reduce down to approximately ₹3 lac. Following
chart is showing these three parameters side by side.
The figure shows
essentially you need to juggle between three parameters Risk Coverage, Premium
Amount and Return on Investment (lump sum)
At this point of time Akash was assured of at least one thing that he won’t be going for term plan. After all endowment policy may be charging higher premium or covering lesser risk but at least it is saving for my future. There was a visible sign of relief on his face. However, this didn’t last long enough. He got kick of another black coffee when I told him that you can get same amount of risk covered with more than double return through a hybrid approach. He excitedly jumped out of his place and asked me how? Let us see the illustration below to understand how it works. Suppose Mr. Shyam decided to pay term plan premium of ₹14,478 and the remaining amount ₹4,75,315 (=4,89,793 – 14,478) as fixed deposit with 8% interest rate (recurring scenario), then upon maturity after 20 years the total sum will turn out to be ₹2.35 Cr.
The figure shows splitting the premium of
regular endowment plan in term plan and fixed deposit returns much better value
for your money. In above scenario customer has got finally Rs.2.35 Cr in place
of Rs.1.0 Cr. with same risk amount coverage from regular endowment plan
This was simply mind blowing for Akash. Why the hell people put their money in endowment plan? Why all agents suggest one or other flavour of endowment plan as best plan? Reason, whole insurance business agency is driven by agents and as company makes more profit in endowment plan so, agents get better commission in endowment plans. A common man very easily gets carried away with the perception of double benefit (Insurance + Investment). Let us see, how all these appear on the chart.
Hybrid model (term plan + FD) returns you much
better value proposition in comparison to regular endowment plan
Return though New Endowment plan on maturity (max return)= ₹1 Cr
Return through Hybrid Model (Term plan + FD) on maturity= ₹2.35 Cr
Premium and risk coverage same in both cases
This was mind blowing revelation for Akash. He was not just out of his confusion but now he found probably the smartest solution in the domain.
I continued the
talk and asked him “Akash, what about a strategy which will cover the same risk
and returns you more than 5 times of endowment plans for the same premium?” He
was flabbergasted. How come that is possible? By this time I was an established
expert of the investment domain. I started explaining to him next layer of
mystery with a sip of coffee. See, by this time our hybrid system is bundled
with a growth engine called Fixed Deposit. If we create a system with better
growth engine then it will return even better.
Do you mean stock market? -asked Akash.
Yes, I am talking about stock market. If we are committing for 20 years then why not stock market. Stock market is known to return better than any other asset classes or instruments if we stick to it for long term. Typically, if you follow the right investment strategy then in long term Indian stock market can return you somewhere between 15-20% year on year return. Even with conservative estimate of 15% your new hybrid approach will return you nearly ₹5.6 Cr at the end of the tenure.
Yes, I am talking about stock market. If we are committing for 20 years then why not stock market. Stock market is known to return better than any other asset classes or instruments if we stick to it for long term. Typically, if you follow the right investment strategy then in long term Indian stock market can return you somewhere between 15-20% year on year return. Even with conservative estimate of 15% your new hybrid approach will return you nearly ₹5.6 Cr at the end of the tenure.
But, how I can
become overnight expert of stock market investment? –asked Akash
The same way you
become familiar with all the roads and streets of the city overnight by help of
Google GPS based navigation system. Yes, there are systems available now days
to help in investment just like GPS based navigation system. They are called
robo-advisors. In western countries robo-advisory is growing very fast and
conventional wealth managers have started feeling threat from them.
Well, .. do they
also provide service for Indian stock market? -asked Akash
In India Safe
Trade has Active Portfolio Service which
just works like Google GPS based navigation
system. It knows exact status of your investment and cash availability and
based on that it recommends you to take last mile actions. Just like GPS system asks you to take left and right and you
reach to your destination in fastest possible time without knowing the city or
getting help from anybody.
It was too many
eye opening revelations for Akash as was evident from his face.
Now it was time
to summarize the conclusion
Endowment plan return at maturity = ₹1 Cr
Hybrid model 1 (term-plan + FD) on maturity= ₹2.35 Cr
Hybrid model 2 (term-plan + stock market) on maturity= ₹5.60 Cr
Typical insurance plans are subject to long term. So, one can
chose stock market as growth engine in place of FD and it will yield much
better result. Hybrid1: term plan + FD, Hybrid2: term plan + stock market
Suddenly, one typical issue
struck Akash’s mind. What about tax saving? All these insurance companies have
tax benefit on the premium. I further
explained him. There is a cap on maximum amount of 1 lac on which you can claim
tax benefit. Typically these brackets include all other tax saving options like
EPF, PPF etc. So, you can’t save tax on all the money if you are paying ₹4,89,793 as premium. Definitely, you can claim tax saving on term-plan
premium. You may need to pay tax on the earning of fixed deposit (but there are
tax consultants to help you). Don’t think that your extra earning of ₹1.35 Cr will be still large even after paying the tax with any rate?
Hybrid model (term plan + Stock market)
returns much better value proposition in compare to all the plans
Here is one more
point about the Hybrid Model 2. Your investment vehicle is stock market so all
the earning is tax free if you are booking profit after one year. System like Safe Trade takes care of those
factors and they minimize (almost negligible) the tax burden smartly for you.
You have another reason to choose Hybrid Model2 (Term plan + Stock market) over
Hybrid Model 1 (term-plan + FD).
Akash was totally an enlightened
person by the time.
DISCLAIMER:
To make the narration of the story simple we have not declared different terms
& conditions for different types of policies. So, actual premium amount may
vary for individual to individual. However, overall gist will be applicable for
most of the scenarios.