Life insurance is the first investment for most Indians. So it is for Kolkata-based Ameet Raj Mund, 27, and his wife Sanghamitra, 25. Financial security is the chief concern of this newly wedded software professional couple.
“We want to ensure that we are not saddled with financial worries in case of a crisis,” says Ameet. That’s why they have bought four life insurance policies for themselves. And they also want to build a nest egg, so there are three pension policies.
There is no doubt that the Munds are careful spenders and disciplined investors. Their middle-class moorings prevent them from the extravagant splurging that is so common among people of their age. Roughly 30% of their combined monthly posttax income of about Rs 52,000 goes towards household expenses.
Loan repayments account for another 30% while the balance is invested in a mix of mutual funds and life insurance policies. With such a healthy saving rate and lots of time on their side, they have a good chance of building a big retirement corpus.
But despite all this their financial health is far from perfect. In fact, it is quite unwell and needs some serious tweaking. The good part is that they are in a position to set things right. Let’s start with life insurance, an avenue that occupies the prime position in their investment portfolio.
The problem: the Munds are paying too much premium for too little insurance cover. They invest Rs 61,500 every year into four insurance policies that give them a cover of Rs 26.6 lakh. Ameet pays Rs 46,500 a year for three policies that give him a cover of Rs 23.5 lakh. One of the three policies gives him a cover of Rs 15 lakh, at a cost of Rs 4,000 per year. This is a term plan and perhaps the only worthwhile policy in their insurance portfolio.
The other two are endowment policies which gobble up Rs 42,500 every year but give a cover of only Rs 8.5 lakh. Sanghamitra is also saddled with an endowment policy—she pays Rs 15,000 a year for a Rs 3.1 lakh cover. Besides these insurance policies, they have three pension plans for which they pay a premium of Rs 41,000 annually.
Two of these are unit-linked policies, which are nothing but costly mutual funds that charge a hefty 25-30% commission in the initial years. The only benefit to an investor is that he can switch among debt, balanced and equity options based on his reading of the market. The Munds would have been better off buying mutual funds than these high-cost plans. But since they are already in, they should use the unit-linked plans to invest in equities.
There’s more pain to come. They also have a pension policy that will start giving them returns from 2011 onwards. But do they really need the money to come back so soon? Such money-back plans should be taken only if you need an additional source of income. Otherwise, allow your investments to grow for as long as you don’t need the money.
After life insurance, the next thing on the Munds’ list of priorities is tax savings. They have been investing in three tax saving mutual funds and a diversified equity fund through monthly SIPs of Rs 1,000 each. It’s a good strategy and they have chosen good funds, including HDFC Equity, SBI Magnum Taxgain, HDFC Long-Term Advantage and Franklin India Taxshield. A monthly investment of Rs 4,000 in equities is not too low, but considering the Munds’ potential to save, it is on the lower side. They need to hike this to at least Rs 12,000 a month.
Equities have given the highest returns over the long term. The Munds should invest in ELSS funds as part of their tax planning for the year. They could consider increasing the allocation to HDFC Long Term Advantage and Magnum Taxgain, and also add Birla Equity Plan to their portfolio.
However, if they have a lower risk appetite, they can opt to invest a part of this money in Templeton India Pension Plan, a debt-oriented balanced fund which has given decent returns in the past. But hiking investments in equity funds is easier said than done. Hefty premiums on endowment policies impairs the Munds’ ability to invest elsewhere. But there’s a way out.
The Munds should consider converting their endowment policies into paid-up policies (see MONEY TODAY, 22 March). After premiums have been paid for three years, you can stop and still enjoy the life cover. The corpus built up over three years will pay for the life cover extended to you. The policy ends when that corpus is completely depleted. A term plan of Rs 30 lakh for 30 years will cost Ameet about Rs 9,000 a year, releasing about Rs 33,000 for investments that will give a higher return than an endowment policy.
Real estate does not figure in their financial plan. The Munds should also consider buying a house. If they feel that property prices and interest rates are too high, they should become pretend buyers— saving a fixed amount every month as if they are paying a home loan EMI (see MONEY TODAY, 26 July). The savings could then be used as down payment for the house when they buy one in the future.
