The Ultimate Guide to Term Insurance Coverage Calculation

Life Insurance is a major part of any financial portfolio, but if we go by the data, it only has a 3.2% penetration rate in India. Furthermore, as per the latest economic survey (2023), Indians are more inclined to go for a life insurance policy that has a savings element. Additionally, focusing on a savings plan leaves your family vulnerable, as the life cover aspect is often not sufficient. Thus, a term plan is recommended to everyone, as it is affordable and offers high life cover as well.

Term insurance is the purest form of life coverage, offering a comparatively higher sum assured at a lower premium. This life cover is in place for a specific period, or term, during which it ensures that in case of your untimely demise, your family has a financial safety net in the form of a death benefit payout. While the term insurance premium amount and duration are crucial aspects to consider while selecting a suitable term plan, do not neglect coverage. The death benefit payout must be sufficient to support your family in their day-to-day lives and the fulfillment of their life goals. 

Hence, while buying a term insurance plan, the biggest question worth asking is whether you have sufficient coverage as part of your term insurance policy. Unfortunately, there is no one-size-fits-all solution in terms of how much coverage you need. The calculation procedure depends on several factors. Here is a brief guide to learning more about getting the right coverage amount suitable for your needs.

Term Insurance In India- Steps To Calculate Suitable Insurance Coverage

When you  buy term insurance, you should take the necessary steps to work out your desired insurance coverage. Here are some pointers that you should keep in mind:

• Replacing Loss Of Income - This concept is essential when choosing term insurance coverage. The sum assured amount should be sufficient to cover the loss of income in case of your unfortunate demise within the policy period. Hence, it should offer coverage for future working years. It is even more necessary if your family is financially dependent on your income. Hence, in such a stressful scenario, their troubles will only be compounded further due to the loss of income. Providing for this amount will be the right thing to do. Hence, you should include it in your calculation. First, work out the number of future working years. The longer this period, the higher your coverage needs and vice-versa. For instance, if you are 40 years old and have 20 years left till retirement, you will need an amount to replace 20 years' worth of income.
• Specific Life Goals- Your family may have several life goals in the future which may include foreign trips, higher education of children, weddings, retirement planning, and so on. These are circumstances that may require a large corpus. The sum assured can be selected after adding these figures to your calculation. The higher these goals, the higher your sum assured amount.
• Annual Expenditure- While buying your term insurance plan and calculating coverage, account for the annual expenses of your family. Take all recurring and ongoing costs into account, like grocery and utility bills, education costs, healthcare costs, and miscellaneous expenditures. Do not forget to factor in inflation while calculating these amounts.
• Liabilities And Debts- If you have liabilities like a home loan, car loan, or any other debts, you should add them to your calculation. Otherwise, your family may have to cover them in the future in the event of any unfortunate situation, which may put them under severe stress.
• Investments- If you have already deployed sizable investments in multiple avenues, you may choose a relatively lower coverage amount. You should list out your assets carefully while undertaking your calculation process.

Calculation Methods for Term Insurance Coverage

Here are a few methods to help you take care of the final coverage calculation. They include the following:

• Underwriter’s Thumb Rule - The rule of thumb is a sum that is ten times your annual income. Hence, if you earn Rs. 15 lakh annually, then you will require coverage of Rs. 1.5 crore. However, this is not widely recommended as it does not provide very accurate coverage.
• Human Life Value (HLV) - It is a system where future expenditure, income, investments, and liabilities are taken into account. Then a final amount is worked out that will ensure an annual return upon being invested in a fixed-income channel, making it equivalent to your current annual earnings. For example, suppose you earn Rs. 10,000 as your monthly income, and your yearly income is Rs. 1.2 lakh. In this case, assuming a return rate of 6%, the corpus you require is Rs. 20 lakh (Annual Income/Return Percentage * 100). As this method takes inflation into account, it is considered one of the more accurate methods for working out your ideal life cover.
• Income Replacement- This method multiplies annual income by the active working years to obtain the sum assured. For example, if you earn Rs. 12 lakh per year and have 20 years left till retirement, this amount is Rs. 2.40 crore. Your family will require at least this figure to cover the loss of income.
• Expenses-Oriented Method- You must calculate the total of your daily expenses, debts, loans, life goals such as retirement and your children's schooling or wedding, as well as the cost of caring for your dependents for the rest of their lives, using this method. This value represents the financial safety net you require. You can deduct any existing life insurance or investment from this amount to arrive at the term insurance coverage you require.

These are some methods of calculating coverage while buying a term insurance plan. Invest a little time and effort into the process. It will bring you greater mental peace while ensuring better financial security for your family. Always go for a coverage amount that fits your needs without seeking a policy with the lowest possible premium amount.

Remember to periodically review this coverage amount, as your family's needs may change over time. At every life stage, the amount in question should meet the family's monthly expenditure, future goals, and other needs while making up for the loss of income. Choosing suitable coverage is crucial; do not neglect it while buying your term insurance policy. Start looking for the right plan today!

Neha Panchal - Financial Content Writer

Neha used to be an Engineer by Profession and Writer by passion, which is until she started pursuing full-time writing. She's presently working as a Financial Content Writer, with a keen interest in all things related to the Insurance Sector.