The Most Authentic Guide on Personal Finance and Investments

(Funny) Words of Wisdom : "My wallet is like an onion, opening it makes me cry." ~ Anonymous

'Return of Premium' option in a Term Plan is a strict NO, NO & NO

A standard Term Insurance Plan is like your vehicle insurance or conventional mediclaim insurance. If something goes wrong, insurance company compensates you; if nothing happens, your premium is gone.

Since there are good chances of nothing happening and premium going "supposedly" waste, people are reluctant to buy such pure insurance covers. You don’t get anything physical or concrete for the premium that you pay. Security is an intangible benefit. Hence this reluctance to pay something for (tangibly) nothing.

Such policies are only bought under compulsion. You buy vehicle insurance because it is mandatory. But you will rarely buy a term plan voluntarily.

To overcome this psychological barrier, insurance companies sell what is called the "Term Plan with Return of Premium option". 

In simple terms, in such policies
- if something goes wrong, the Sum Assured is paid to your nominee
- if nothing goes wrong, the total of premiums paid is returned to you on maturity.

Insurance is like a bitter pill, which is sugar-coated to make it palatable.

Now, people are happy. They are getting all their money back. I mentioned in the article title...Don't buy such plans. Don't fall for the trick of the insurers. 

Why do I make such a statement?

A simple example will illustrate this. Suppose you are a 30-year old person buying a term plan for a period of 20 years and for a sum assured of Rs.10 lakhs.

If you buy a standard term plan, you will have to pay a premium of around Rs.2500 p.a. (i.e. Rs.50,000 over 20 years). At maturity you will get nothing.

If you buy a term plan with return of premium option, you will have to pay a premium of around Rs.8500 p.a. (i.e. Rs.1,70,000 over 20 years). At maturity, after 20 years, insurance company will return Rs.1,70,000 to you.

Now comes the interesting part....

If you buy the standard term plan for Rs.2500 p.a. and 'lazily' keep the difference i.e. Rs.6000 in savings account earning only 4% p.a. interest. Then, on one hand the term plan will continue to provide you protection, and on the other hand your balance in the savings account would become Rs.1,85,000 after 20 years...which is more than what the insurance company promises to give you.

And if you invest this Rs.6000 p.a. at a very conservative 7% p.a., you will accumulate Rs.2,63,191 at the end of 20 years. So by falling into the psychological trap, you stand to lose almost Rs.1 lakh on a very conservative basis.

And if you put this money in equity and get average only 12-12.5% p.a. returns, your balance would almost be Rs.5 lakhs.

Hence, my strong plea...Don't Buy Term Plan WITH Return of Premium Option.

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