How do you buy insurance?
If you’ve always bought insurance only on the advice of a relative or a friend then you may or may not know the right amount of insurance you need. Most of the people who buy insurance do so in this manner. But this is definitely not the right way to buy insurance, especially life insurance. Why? Because everybody is different in terms of the life stage they are in, the financial challenges that they may be facing or the kind of financial resources that they possess. So, what holds good for one individual may not hold good for another.
Is there anything like an exact amount of life insurance cover?
So, how do you arrive at the exact amount of insurance cover that you may need?
Well, there is no exact method of computation of the exact amount of insurance that one requires. Too little cover may mean inadequate protection in the event of the unfortunate death of the policyholder whereas too much cover may entail excess outflow of premiums. Here, we’ll discuss three methods of computing the amount of life insurance that you may need.
3 Tips to calculate Insurance Need
- One simple way of computing is by multiplying your current annual income 10-12 times to arrive at the insurance cover. So, for instance if your annual income is 4 lacs at the moment, you should have an insurance cover of at least 40 lacs.
- Another method of calculating your future financial needs is the Human Life Value. This is the capitalized value of future earnings. For instance, continuing the earlier example, you are currently 25 years of age and plan to work till 60 years of age. So, 60 minus 25 or 35 years is the time for which you are going to continue working. So, 4 lacs multiplied by 35 years or 1.40 cr will be your net earning potential.
- Another method is actually deducting your future liabilities from your future assets & factoring in inflation into the same. For instance, in the above example, assuming that you plan to buy a house worth 50 lacs in the coming years and you have fixed deposits of 2 lacs with you, your net liabilities will be 48 lacs. Add an education loan of 2 lacs that you plan to take. Add inflation at a simple rate of 5% p.a. which makes it 87 lacs. Consider 120% of the said expenses to factor in health issues that may crop during old age & you arrive at a figure of 1.05 crores as what you’d like to have as insurance cover.
Although, the above three tips are a good indicator of how to arrive at the exact value of your insurance requirement, it cannot be applied universally. You will have to take a call based on your present and future needs. The above can, however, serve as a starting point for the process of computing your insurance requirements.