How much insurance do you actually need?

Most people put off buying insurance. Nothing bad has happened yet, and the premium does not buy anything you can see. But without it, a single month can wipe out ten years of saving. Two policies cover nearly everything that matters: term life and health.

Separate insurance from investment

The most expensive mistake in Indian personal finance is buying protection and investment in one product. Endowment plans, money-back policies and ULIPs combine a small amount of cover with a mediocre return and a long lock-in. They are sold hard because they pay the seller well.

If you buy the two separately, the same money gets you much more cover and a much better investment. A term plan is pure protection with no maturity value, and that is why the premium is low. When a policy promises to return your money, you pay for that promise, and the cost is most of the return.

How much term cover to buy

The usual rule of thumb is 10 to 15 times your annual income. That is a reasonable starting point, but a better method is to work out what your income would need to replace: what your dependants would need, for how long, and what they would have to settle.

• The household expenses your income pays for each year, multiplied by the years until your youngest dependant is independent.
• Every outstanding loan, so nobody inherits an EMI.
• Large future costs you already know about, such as education or responsibilities you carry for a sibling.
• Minus what is already in place: current investments, EPF and any employer cover.

Count your employer's cover, but do not rely on it. It ends when the job ends, and that is often when you are least able to buy a new policy.

If nobody depends on your income, you may not need term cover at all. It exists to replace what your dependants would lose, and without dependants there is nothing to replace.

Buying term cover

Pick a policy term that runs at least to the age you expect to stop working, or until your last dependant is independent. Premiums rise sharply with age and with any health condition you develop in the meantime, so a policy bought at 30 costs noticeably less than the same policy at 38.

Answer the medical and lifestyle questions accurately, including tobacco use. Leaving something out to get a lower premium is a reliable way to get a claim rejected, and that rejection reaches your family at the worst possible time.

Health cover: most people buy too little

Medical inflation in India runs well ahead of general inflation, so a cover that seemed generous when you bought it can look small a few years later. One stay in a private hospital in a metro can easily cost more than a small floater pays.

For a young family, a family floater is usually the most efficient option. Beyond the sum insured, check two things. First, room rent limits: if you are admitted to a room above the allowed category, they can cap the entire claim. Second, the waiting period on pre-existing conditions, which is why you should buy cover before you need it.

As with term cover, treat employer health insurance as a supplement to your own policy. Keep a policy in your name so that a job change does not leave your family uncovered or start a new waiting period from scratch.

What you can probably skip

Most add-on and single-risk covers sold at the counter, such as gadget insurance, extended warranties and narrow disease-specific plans, are priced to suit the seller. Ask yourself: could you pay for this loss from your emergency fund without changing your plans? If you could, you do not need to insure it.

A note on tax

Premiums qualify for deductions under the old regime and mostly do not under the new one. Use the income tax calculator to check which regime you are in, but do not buy a policy for the deduction. A tax saving does not make a poor product worth owning.

How this affects your Health Score

Protection is a pillar of your Financial Health Score because it decides whether everything else you have built holds up after a bad event. A high savings rate without health cover leaves you exposed, however good your returns look.