Importance of Right Sum Assured in Term Insurance Policies

When you buy a term insurance policy, it is paramount to choose the right sum assured. It is the amount that the insurance companies pay to the beneficiary (nominee) in the event of your untimely and unfortunate demise during the policy period. Before you sign the policy papers, you must take your time to review your current and future financial standing.You must keep in mind your income, the number of dependents you have, the family expenses to maintain the current lifestyle, etc. and choose the sum assured accordingly. A lower sum assured will mean that your family will not have sufficient coverage.Many financial planning experts suggest following the thumb rule – the sum assured must be at least 15-20 times more than the current annual income. If you have any debts like home loan, education loan, make sure to factor these expenses while choosing the sum assured in term insurance. Ideally, the sum insured of your term policy should serve the following purposes for your family members:

• The amount should serve as a replacement of income for your family in your absence
• It should cover the outstanding debts you may have
• It should support your family to live an independent life without compromising on their living standards
• It should provide enough financial assistance to help your family accomplish their financial goals

Steps to choose the right sum assured in term insurance policyIf you are not sure how to choose the right sum assured for your life insurance policy , the follow step-by-step process will be helpful Also Read: Who Should Buy Life Insurance & When

First and foremost, count the number of years you expect to be earning. Since a life insurance policy serves as an income replacement for the family members, the years of income it needs to replace will significantly impact the sum assured. For example, if you are a 30-year-old individual and wish to retire at 60, your future earning years is 30 years.

Once you know the earning years, the next step is to identify the recurring family expenses. You must factor in all the current and future costs like school fees, home loans , healthcare expenses, utility bills, groceries, etc.Your term insurance policy must cover all these expenses on a year-on-year basis. Now, plot the recurring expenses against the present value of your investments/savings.

List down the various landmark events where your family may need a lump sum amount. These include marriage, higher education, etc. If you are already saving for such events through regular investments, you can add the expected returns to the cash flow.

List out all your liabilities – home loan, personal loan , credit card payments, other debts, and add the amount to the expenses as drawn in step 2 and step 3. Now subtract the value of your existing life insurance (if any) and the value of your investment portfolio from the figure. The final total you get must be the ideal sum assured you must opt when buying a term life insurance policy. Final Word Choosing the right sum assured for your term insurance policy requires careful calculation, and it should meet your family's future expenses.

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.