What is Life Insurance: Meaning and Types

Introduction to Life Insurance

Choosing the right life insurance policy can be challenging. Depending on the nature of the policy, it benefits your immediate dependents and helps them live a hassle-free life with sufficient financial support.

Some other policies may also offer a maturity period, where you are awarded the lump sum as soon as you complete the tenure of the life insurance.

The option of multiple life insurance policies might confuse you. To better decide the best type of policy for you and your family, it is vital that you are aware of the concept of life insurance. Read on to understand life insurance and explore its types to ascertain the right fit.

Definition of Life Insurance

So, what is life insurance? It is a comprehensive cover that safeguards your family's financial interests in the event of your death or expiration of the maturity period. Consider it as a contract between two parties - you and the insurance company or insurer. This contract is made up of reciprocal promises, as illustrated below:

• You enter into a contract to pay regular premiums for a pre-decided tenure.
• The insurer promises to pay a lump sum to the beneficiary if you pass away or the tenure period ends.

A life insurance policy is a legally-binding document that safeguards your interests. You can name one or more beneficiaries in your life insurance policy, and the insurer will award them the appropriate sum in case of a tragic event.

Importance of Life Insurance

Did you know that 10.4% of total deaths in India are unnatural deaths? These were caused due to accidents, homicides and even medical errors. While modern healthcare has advanced to combat various diseases and improve the overall age expectancy of humans, it still has a long way to go.

In the face of these numbers, it is vital to stay secure and look out for the financial well-being of your loved ones, especially if you are the sole earning member. Purchasing a life insurance policy helps you avail of the following advantages:

• Helps build a retirement corpus if you choose insurance with a maturity period.
• Extended financial security for you and your family.
• Access to income tax deductions on premiums according to section 80C of the Income Tax Act 1961.
• Tax-free payout in the case of death or maturation expiry.

Based on the type of life insurance policy you choose, the benefits may increase and help you plan better long-term financial stability.

Types of Life Insurance Policies

Life insurance policies are divided into four categories, depending on their nature and essentials. Here are the types of life insurance policies and their distinctive features to help you understand them better.

Term Life Insurance

Term life insurance is the standard insurance plan where you can pay premiums for a specified number of years for life cover. If you pass away during the policy’s term, your beneficiaries are awarded a death benefit equal to the policy’s face value. If your death occurs after the expiry of the policy term, your family will not receive a payout unless you have extended the policy term.

The working of term life insurance is simple. It calculates premiums based on your age and medical condition. For example, if you are 22 and choose to purchase insurance of INR 50 lakhs with premiums of 20 years, you will be asked to pay a lower premium than a person who is 25 years of age with prior medical conditions. The only limitation of term life insurance is that it is only limited to death benefits with no provisions for savings, as in some other types of insurance.

Whole Life Insurance

Whole life insurance offers more flexibility than term life insurance. For one, it emulates the latter with death benefits equal to the face value of the policy. In addition to that, it also provides a saving avenue in which you can park surplus funds and acquire a pre-decided returns to increase their value. This is known as the cash value.

You can also withdraw the cash value from your policy by cancelling the life insurance if you feel it has accrued sufficient interest. This is only advisable if you no longer need the death payout and are okay with the surrender value.

Endowment Life Insurance

An endowment life insurance policy differs from the ones already mentioned on the list due to its hybrid nature. With an endowment life insurance, your family can avail of the death benefits in the case of an unfortunate event, as with other policies. The added advantage is that this life insurance also has a maturity plan.

The most significant benefit of a maturity plan is your ability to use life insurance to save. You can choose a maturity period, say 20 to 25 years, after which you will be eligible to avail of the face value of the policy, provided you paid all the premiums in time.

During the same period, if you encounter a mishap and pass away, your beneficiaries get the full benefits of the endowment life insurance.

Unit-Linked Life Insurance Plan (ULIP)

Unit-linked life insurance is a perfect option if you are looking to safeguard your financial future and find a reliable way to invest in alternate financial instruments. This type of insurance works the same, where you pay regular premiums for a specific time period. The only difference is that a part of these premiums goes into the insurance, and the other is diversified into equities, bonds or a combination of both.

To start with a unit-linked plan, you must pay a lump sum upfront. The following payments can be semi-annual or annual, according to the guidelines set by the insurer.

Benefits of Different Life Insurance Policies

There is no one insurance policy that can be perfect for all individuals looking to get started. However, each offers different benefits to help you understand the strengths of investing in each type of life insurance.

Term Life Insurance Benefits

• Relatively lower premiums than other types, especially if you start early.
• No concept of risk since it only deals with death payouts.
• Option to add coverage for terminal diseases.

Whole Life Insurance Benefits

• Provides cover for your entire life and assures payouts to beneficiaries.
• Flexibility to acquire loans from the policy.
• Freedom to build supplemental retirement income.

Endowment Life Insurance Benefits

• Encourages regular savings to invoke discipline with disposable incomes.
• Caters to long-term investment goals.
• One of the few options that help in asset building while providing life cover.

Unit-Linked Insurance Plans Benefits

• An added layer of customization to diversify your investment portfolio.
• Option of partial withdrawal to withdraw some amount in case of emergencies.
• Chance to achieve market-linked growth without directly entering the stock market.

How to Choose the Right Insurance Policy

Before you commit to a life insurance plan, it is vital to assess your needs to avoid making a rushed decision.

Factors to Consider

• What is your life insurance goal? Is it to build a corpus for your family to ensure their needs are met after your death? Is it to take care of your child’s education?
• What is the ideal insurance coverage you require? Think of an amount that accounts for your family's needs. In most cases, it is recommended that you choose a sum that is ten to fifteen times that of your annual salary.
• Determine the ideal tenure for your policy. Financial experts advise subtracting your current age from your retirement age or the age at which you wish to stop or achieve a goal.

Assessing your Needs

• Safeguard your overall health by including add-ons. Several life insurance policies offer an option to include medical coverage for terminal illnesses.
• If you want to explore alternative investment avenues, choose the unit-linked plan to secure life cover while building long-term wealth.

Comparing Policies

• Scrutinise the market for the best deals. Calculate the premium you can afford to pay comfortably, then select the insurer offering the maximum coverage near this price.
• Research and choose a reputable insurer to protect the financial future of your loved ones.

Conclusion

Life insurance policies are no longer considered luxuries. They are regarded as one of the most important investments to safeguard the financial future of your loved ones or build a long-term corpus to achieve a goal. With four main types of insurance, you can choose your preferred option after accounting for important factors like your policy goal, annual premiums and face value. Tax exemption is also an incentive to choose insurance policies and receive payouts without getting tax deductions.

So, buy the ideal life insurance policy that caters to all your needs. Choose a reputed insurer and save the hassle of constantly checking up on your funds!