Will Your Term Insurance Actually Serve Its Purpose?
We could all have different reasons for buying a term insurance policy. Some of us want to ensure that our dependents have enough money to fulfil their big dreams, while some others want to protect them from the burden of their existing loans and liabilities. Some others simply take out a plan to provide a regular amount to the family, replacing your monthly income.
And while you customise the perfect term insurance plan that is adequate for all your family’s needs - there could be other hurdles stopping them from receiving the money when they need it most.
The first of such hurdles is any existing loan that you have. You should know that under usual circumstances - the claim amount is first paid to your creditors - and only after all your loans are covered will your family get to see any money. Let’s take an example of Rakesh and how not knowing this fact led to a lot of financial difficulties for his family, after his death - despite a good term insurance cover.
Rakesh, 45, had a wife and 2 kids. He had taken out a home loan of 65 lakhs for the house where the family currently resides. He also has a personal loan of 5 lakh rupees that he still hasn’t repaid. He bought a term insurance plan of 1 Crore and appointed his wife as the nominee. Unfortunately, 7-8 years later he got diagnosed with a life-threatening disease but because he’d taken term insurance, he was relieved that his family will be secured financially after he’s gone.
But - that’s not what exactly happened. After his death, the claim amount was first used to pay off the hefty house loan, and then the personal loan. After deducting these amounts, his wife received an amount of 30 lakhs in her account.
Then, came the second hurdle. While much less than the expected sum assured, 30 lakhs was still a big amount to receive in one go. And, Rakesh’s wife did not know exactly what to do with it. She asked a family friend to help her out - and while he had the right intentions - he guided her towards some unreliable schemes. Result? Just a few months later - she had exhausted a large part of the amount - without even realising it!
These situations are more common than you might expect. You might have heard of lottery winners who get a large sum of money in their bank accounts - only to be left bankrupt in just a few years - because they won’t know how to manage, invest and safeguard such money. The same situation happens to hundreds of families who lose their term insurance claims to bad investments.
So - what can you do?
Here are 3 simple tactics to use so your term insurance amount actually fulfils its purpose and supports your family through all their short-term and long-term needs - as you wanted it.
1️⃣ Take your policy under the MWP Act
According to the law, all your loans and liabilities will be paid off first, before the claim amount reaches your family. A simple additional document - the Married Women’s Property Act (MWP), ensures that the whole amount first reaches your wife. She can then decide which payouts to make first and prioritise her needs accordingly.
What’s important to note is that - you can only sign the MWP addendum at the time of taking the term insurance policy, and never later. ALso, once the MWP is added to a term insurance policy it cannot be changed or removed by anyone (including you or your wife). In fact, the MWP stands valid even in the case of a divorce.
2️⃣ Choose the right payout option
If you don’t want your nominee to end up clueless about the claim amount, you make the decision on their behalf, well in advance. Term insurance plans allow you to configure how your nominee receives the claim money by offering the following three payout options:
- Lump-sum: Lump-sum is a good payout option when lots of loans and liabilities have to be paid off. In this option, in the event of the policyholder’s death, the entire sum assured is paid out in one go. The nominee can immediately pay off all the loans and liabilities in one go. You can also choose this option, if you’re absolutely certain that your nominee will know what to do with the large sum of money.
- Monthly income: It is an option where the claim is paid out in monthly instalments for a period of 10 to 15 years. You should choose this option, if you don’t have loans to be paid off in the short-term, and wish for your family to have a sustained, regular income for their monthly expenses. This can be very helpful if you think your family might not be able to manage the large sum of money in the long-term.
- Lump-sum + Monthly income: It is an option where a fixed amount is credited in one shot, and the remaining amount is credited every month for a certain period. You should select this option when there are loans and liabilities that need to be settled immediately + monthly expenses to meet in the long-term.
3️⃣ Create a will
If you’re a part of a joint family or have multiple legal heirs, there might be disputes over who receives the claim amount. There have been several cases of ill-meaning family members trying to get hold of the claim money by the wrong means. To avoid such situations, it is recommended that you create a will to ensure that the insurance payout reaches the right person.
A note on the side: You can also use the will as a tool to ensure the claim amount goes to someone other than your legal heirs - like a brother or a cousin.
Remember - If anything goes wrong during the claim settlement, you won’t be here to make things right. Whatever you wish to do - you’ll have to plan meticulously and get every step of the way right. Consider the above three points if you want your claim amount to reach the right person and the intended objectives are met.
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- If you want your wife to receive the claim amount before any of your loans/ liabilities are settled, take your policy under the MWP Act.
- If you are a part of a joint family or have multiple legal heirs, you should create a will to ensure the claim reaches the intended person.
- Depending on the loans and liabilities you have taken and your nominee's financial aptitude, you can configure how he/she receives the claim amount.
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