Review insurance portfolio every year

Raise the amount of life cover you own if your liabilities and responsibilities have increased during the year

With 2017 drawing to a close, it is time to carry out an year-end review of your personal finances. Both investment and insurance play equally important roles in ensuring financial strength. While the former helps safeguard a person’s future, the latter provides security to his family in the event that he is not around to take care of them. Despite insurance being of equal, if not more, importance, people rarely include their insurance portfolio in year-end reviews. Insurance-related decisions follow more of a “buy once and continue forever” pattern. This can give rise to problems, given the constant changes taking place in an individual’s life.  
 
When people buy life insurance, more often than not they do so using a thumb rule, such as multiple of their annual income, their age, investments available, etc. A more scientific approach for determining adequate life coverage involves quantifying the various responsibilities the individual has towards his family, benchmarking them against the coverage he has currently, and then arriving at the gap in coverage. Whichever of the two approaches is used, the common aspect is that life cover depends on factors that are variable in nature. Hence, the life cover acquired using these variables also needs to change over time. Many people do review their life cover after specific life events, such as marriage, home purchase, baby’s arrival, and so on. But an annual compulsory review is not something that most people practise. Here are five factors that an annual review of life insurance should take into account:
 

Is your life cover adequate? Whether the amount of life coverage an individual has is adequate depends on his income, responsibilities and liabilities. All these factors — income that needs to be replaced, family milestones, and an individual’s liabilities — keep changing over the years. Hence, they need to be reviewed periodically to understand the impact of any change in them on an individual’s life cover. Take one example. When your parents or siblings become financially dependent on you, your monthly household budget increases. Hence, the income that needs to be replaced also needs to be revised upward, requiring an increase in life insurance coverage. Similarly, if your children start earning and begin to live independently, your responsibilities, and hence the amount of insurance you require, should come down.
 
Economic efficiency of cover: The premium that you pay for life insurance also needs to be reviewed. Pure risk cover, which comes in the form of a  term cover, especially needs to be evaluated. The insurance market in India is maturing. Over the years, premiums on term plans have declined by close to 30-40 per cent on account of IRDAI (Insurance Regulatory and Development Authority of India, the insurance regulator) reducing the solvency margins that insurers are required to maintain. The annual premium for a term plan under a new contract could be lower than the premium payable under the existing contract taken five-six years ago. No doubt, with increasing age, insurance premiums tend to rise. But due to the overall decline in term premiums, you could still end up making a saving by moving to  a new plan. For the same premium cost, you could get more coverage, or you could get the same coverage for a lower premium cost. You will be able to reap this advantage only if you review your insurance policy periodically and compare your existing premium with the rates prevailing in the market.
 
Changes in health of insured: Life insurance is a contract between the policyholder and the insurance company with “utmost good faith” and “complete disclosure” as its basic principles. At the time of application, an insured is expected to make complete and true disclosures regarding existing ailments and health condition, on the basis of which the insurance company underwrites the risk at a cost. Any changes in the health condition of the policyholder after the commencement of the policy does not affect the premiums.
 
An annual review should consider updating the insurance company if there has been any change in health condition during the period under review. Even if the individual takes up some habits (like smoking/drinking) which may have an adverse impact on his health, it is always advisable that this be disclosed to the insurance company. Although it may have no implications on premium cost, it will go a long way towards simplifying claim procedure at the time of death.
 
If there have been positive changes in health condition, especially if they are irreversible,  the individual can evaluate proposals for a fresh policy. Such a review becomes important where the individual contracted the policy at an elevated premium level due to his condition.
 
Relevance of policy: If a policy was bought with a specific need or objective in mind, the need for it should be evaluated on a continuous basis. For example, a policy taken to protect the family from a loan liability may be discontinued in the year in which the loan gets repaid.
 
Performance of policy: Investment-linked policies should be compulsorily reviewed periodically. They have to be treated at par with other forms of investment. Based on their performance, you may decide to continue or discontinue with them. Have realistic expectations regarding policy performance, keeping in mind the various costs, including mortality cost, that are deducted from policy fund.
 
Identifying risks and securing them with appropriate insurance covers is an important aspect of financial management. Only by adjusting your insurance portfolio to take into account altered life circumstances can you optimise its effectiveness.

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The writer is a chartered account and certified financial planner