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How much Insurance Cover You should Buy

We help you do the math to decide how much cover should you buy

INSURANCE COVER

Most people believe they have saved enough to take care of their family. But problems arise when an unforeseen event such as an accident or a disease threatens to erode their savings. This is where insurance plays an important role.

The first insurance you must buy is a life cover. This will make sure that your family does not suffer financially in case you die. It is important to ask yourself: What if something happens to me? Will my family be able to pay off the home loan? What about the education of my children? Do I have enough savings to replace future income? Life insurance takes care of these concerns.

Most people understand the need for a life cover. In spite of that, India is grossly under-insured with life insurance penetration of just 2.6 per cent (2014). In Hong Kong and the UK, which have a much better social security system, it is as high as 13 per cent and 8 per cent, respectively.

The next important layer of protection is health insurance as hospitalisation can drain your savings. Likewise, you need adequate home insurance, too. Also, when you go abroad on a holiday or for a business trip, travel insurance will come to your rescue if you fall ill (medical costs abroad can be prohibitive), lose your baggage or face any other exigency. While one must buy these covers, it is equally important to ensure that the cover amount is adequate for your needs. Here is a guide to help you calculate how much cover you must have - be it life, health, home or travel insurance.

LIFE INSURANCE

How much is your life worth? It is important to answer this question if you want to decide how much life cover you must buy. Should it be measured by how much you have invested? Should it be a few years of your annual salary? Putting a monetary value to life is not easy. Several factors go into the calculation. The figure not only depends on your current investments but also on your future liabilities.

Getting this right is important so that your dreams for your family do not remain unfulfilled if something happens to you. For instance, your child should not compromise on his/her ambitions just because you are not around. Your spouse should not have to struggle to meet the daily needs of the family because you are not there to support it. The amount of cover should be enough to take care of your loans, your children's education as well as your family's daily expenses. Here are some methods used to calculate how much life cover one should buy.

Human Life Value: It is the most commonly-used method. It is defined as the present value of all your future income, less personal expenses, life insurance premiums and taxes. It does not take into account your liabilities and future goals. Here is an example. Suppose you are 35 years old. You are expected to work for another 25 years. What happens if you die today? Will your family be able to live on your savings for another 25 years? Maybe not. To know how much money your family will need, subtract expenses from income. Assuming that your total income is Rs 15 lakh, and personal expenses, taxes and life insurance premium come to Rs 5 lakh, your family will need Rs 10 lakh a year for the next 25 years. In order to earn Rs 10 lakh interest every year, it will need a corpus of Rs 1.15 crore, assuming an interest rate of 8 per cent. But this is without factoring in inflation. Throw in inflation and they will require almost Rs 2 crore, as the real rate of return falls from 8 per cent to 1.8 per cent if we assume inflation at 6 per cent.


Need-based insurance: This is a comprehensive way to calculate the cover. This is because apart from the annual expenses, it takes into account your loans as well as money required to send children to college, among other things. This is important as our loved ones can go through a harrowing time in repaying our loans if they do not have a source of income. So, after calculating the present value of future household expenses, experts add the value of outstanding loans and the amount required to meet the college/marriage expenses of children while arriving at a figure for how much life cover you require.

Bimal Samal, Director, Sales & Marketing, Ideal Insurance Brokers, says, "One should always do a need analysis before buying a cover. A large part of the process of choosing a life insurance policy involves determining how much money your dependents will need in case of your death."

So, assume that the person in the human life value example has a loan liability too. He also wants to save for future goals. Suppose he or she has a loan of Rs 20 lakh and wants to save another 20 lakh (inflation adjusted) for his child. In that case, one must add another Rs 40 lakh to the Rs 2 crore cover. However, don't forget to subtract from the figure of Rs 2.4 crore your existing investments and life insurance covers to arrive at the cover required.

There is another important point. Under need-based insurance, it is important to revise the cover whenever your situation changes.

For example, you must increase the cover on birth of your child as your expenses will rise after this. "It is advisable to get life insurance irrespective of the age and premium charged as liabilities and responsibilities increase with age," says Abhijit Gulanikar, Chief Officer, Business Strategy, SBI Life Insurance.

Income replacement method: This method is based on your current annual income. Under it, you simply multiply your annual income with the number of years left to retire. Deepak Mittal, MD & CEO, Edelweiss Tokio Life Insurance, says, "The cover should be enough to substitute all net future income (netted for personal consumption and use). The amount of life cover depends on the life stage a person is in and the liabilities (and related assets) he has. As a thumb rule, one should have a cover of 10-20 times the annual income."

Continuing with the above example, a 35-year-old person with annual income of Rs 15 lakh will require an insurance cover of Rs 15,00,000 * 25 = Rs 3.75 crore. Experts say need-based method is the best as it ensures that you are neither under-insured nor over-insured. One should not forget to take into account one's loans and future goals while doing the math. Ashish Vohra, Senior Director and Chief Distribution Officer, Max Life Insurance, says, "Life Insurance needs may differ on an individual basis. Therefore, proper need-analysis must be done with the financial planner to arrive at your exact protection need."

HEALTH INSURANCE COVER

Medical costs have been rising fast over the years. The health cover that you bought a few years ago might not be enough at the current stage due to rising medical costs (one reason for which is upgrade of medical technology). The real problem starts when you cross 50 as this is the time you need health cover the most. Given the current rate of medical inflation, the cover you bought years ago may not be able to support even half your medical bills. Here is an example. If the cost of heart surgery today is Rs 2 lakh, 15 years down the line it could be as high as Rs 16 lakh, if we assume a per year rise of 15 per cent. Rising premium rates is another issue. Anuj Gulati, Managing Director and Chief Executive Officer of Religare Health Insurance, says, "The fact is doctors' salaries go up, rentals go up , logically hospitals increase their cost. So, my premium has to go up." Are you ready to bear the burden? Will your health insurance policy be able to support you during the later stages of your life? It is important to get the answers right.

You may think that you will increase the cover as you grow old. But here is a catch. The health insurance company will charge a higher premium when you are old. It may even reject your application if it considers you a high risk due to your age, lifestyle or existing diseases. It is, therefore, good to buy health cover at an early age, say, by the time you are 30 or 35. This will ensure that you will not be serving out the waiting period. Besides, if you buy at a late age, there is a risk that the health insurer will reject your application or offer you a policy that has a lot of exclusions. Moreover, you do not have to go through medical tests when you are young. If you cross 45, few health insurers will sell you a cover without a medical test.

How much cover one should buy? Many people think Rs 4 lakh is enough as the sum insured will automatically get doubled in five years if they do not file any claim during this period. But will it be enough given the rate at which medical inflation has been rising? No. Experts say that given the cost of treatment and rising inflation, one should not buy a cover of less than Rs 10 lakh. The exact amount needs to be worked out on the basis of one's medical history, place of stay, etc. Lovaii Navlakhi, a financial planner, says, "The minimum health cover an individual should have is between Rs 5 lakh and Rs 10 lakh. The right amount, however, can be arrived at only after considering factors such as medical history, number of dependents, the city one lives in, etc." Here is the low-down on how to decide the sum insured for your health policy.

Family medical history: If there is a history of illness in the family that can be inherited, one must take this into account while doing the math. Find out the cost of treating these and accordingly increase the sum insured.

City you live in: Medical costs differ from place to place. The cost of hospitalisation is much less in smaller cities. According to the Insurance Information Bureau, the average claim size in Hyderabad is Rs 33,192, while in metro cities such as Mumbai and Delhi, it is Rs 46,806 and Rs 40,179, respectively.

Similarly, while in states like Bihar and Jharkhand, the average claim size is between Rs 9,000 and Rs 11,000, in Maharashtra, it is as high as Rs 36,514. Moreover, in metro cities, lifestyle diseases are a big problem, while in rural India most claims are for infectious ailments. That is why several insurers charge you on the basis of your city.

Number of dependants: You should also consider the number of family members dependent on you. Navlakhi says, "Consider taking a family floater with a higher sum insured or take individual sum insured for each person depending on affordability."

Work Stress, Lifestyle and Weight: Look at your lifestyle. If you are diabetic or suffer from hypertension, you may suffer major health issues later in life. Nature of work (sedentary or active), eating habits, body weight are also some factors that affect your health. Keep these in mind while buying a cover.

Rising medical costs: Medical inflation has been rising at the rate of more than 15 per cent a year. As all medical policies have waiting periods, at least for certain ailments, it is better to go for the maximum amount because the increase in sum insured will also be subject to waiting periods. Ashish Mehrotra, Chief Executive Officer and Managing Director, Max Bupa, says, "Healthcare costs in India are rising as hospitals as well as treatments are becoming more sophisticated. The cost of medicines is also rising. All this has contributed to 18-20 per cent medical inflation."


HOME INSURANCE

Floods and earthquakes we keep reading about in newspapers are a reminder of how important it is to buy home insurance. But do you know how you can decide the cover amount? Here is a little help.

Cover for house: You do not buy cover for the total cost of the house. You should exclude the cost of land and buy cover for the amount it will take to build the house again. The normal practice is to take the square feet (sq. ft.) area of the house and multiply it by the cost of construction per sq. ft. (excluding the cost of land). For example, if the area is 1,000 sq. ft. and the present cost of construction is Rs 2,000 per sq. ft., the sum insured should be Rs 20 lakh.

Nikhil Apte Chief Product Officer, Royal Sundaram General Insurance, says, "For insurance purposes, the valuation of the house will be based on the construction cost (excluding land value) at the location where the building is situated. Depending on the age of the building, a depreciation of 2-2.5 per cent per year is applied. For example, if the cost of construction is Rs 2,000 per sq.ft., the area is 1,000 sq ft and the age of the building is five years, the value of the building is arrived at by applying a depreciation of 10 per cent (2 per cent every year for five years). Accordingly, the building will be valued at Rs 18 lakh."

COVER FOR BELONGINGS

Contents of the house are valued at market prices. Apart from the structure of the building, home insurance covers household articles if they are damaged in case of fire, burglary or natural calamity (earthquake, flood, storm). The contents can be valued by looking at the cost of purchase, less depreciation depending upon the age. It is pertinent to note that the depreciation for contents will be higher than that for the building. Mukesh Kumar, Executive Director, HDFC ERGO General Insurance, says, "The coverage extends to furniture, fixtures, clothing, carpets and electrical/electronic items. The contents can be covered on the basis of their market value."

TRAVEL INSURANCE

Going abroad is not so simple. You need to plan everything in advance right from booking your hotel room to air tickets. Buying travel insurance generally comes last on the list and, therefore, not many bother about how much cover one should buy.

People in the age group of 6-70 years can purchase travel plans. The duration of travel policies is up to 180 days per trip. The sum insured ranges from $50,000 to $500,000. The premium for an insurance plan depends on the place you are going to, the travel period, your age and the amount of cover. How much should one buy?

Shreeraj Deshpande, Head, Health Insurance, Future Generali India Insurance, says, "One major cover an overseas traveller must look at is the medical expenses cover. The sum assured should depend on the country of travel as well as the period of travel." For example, treatment is the US is very expensive and so one must take a higher cover while travelling there.

M. Ravichandran, President-Insurance of Tata AIG General Insurance, says, "Depending on the length of stay, the country of visit and age, travellers choose limits they think are appropriate. For example, medical treatment costs in the US are much higher than in other countries. Thus, customers tend to avail of the highest possible cover. Schengen countries insist on a minimum of euro 30,000 ($50,000 equivalent) cover. The person must take a cover of at least $50,000 to be eligible for visa." Similarly, he says, travellers to Singapore or neighbouring countries for a few days normally take a cover of $50,000. "We, however, recommend that policy holders opt for the highest sum insured limit available," he says.