Best of both the worlds. That’s what the insurers tell you, while describing about the Return of Premium (RoP) life insurance policies. If the policyholder dies, their near-and-dear ones get lump sum amount. If he survives, he gets back all the premiums paid till its maturity. It might seem a win-win deal. Are they really?
What is RoP?
RoPs are like a term insurance as they provide only life cover (or death benefits). However, in addition, the policyholder also gets survival benefits at the time of maturity. The lump sum amount paid is equal to all the premiums paid or a little more (say 110%).
But remember there is no free lunch.
Premiums are higher for RoP policies as against that of a plain vanilla term insurance. If you are a 30-year old non-smoker seeking term cover for Rs 1 crore till 60 years of age, annual premium works out to Rs 8,400, as per the online quote of an insurer. However, it increases to Rs 16,200 for RoP.
1.You pay more
Premiums are higher for RoP policies as against that of a plain vanilla term insurance. If you are a 30-year old non-smoker seeking term cover for Rs 1 crore till 60 years of age, annual premium works out to Rs 8,400, as per the online quote of an insurer. However, it increases to Rs 16,200 for RoP. If you add riders like accidental death or disability benefit as well as those for critical illnesses, you pay even more – about 3 times the normal.
2. Huge opportunity cost
The additional money you pay as premium entails a huge opportunity cost. Taking the above example, where you pay about Rs 7,800 extra every year. If it is invested instead into equities (at 10 percent per annum), it could grow to Rs 14.1 lakh over a 30-year period. In contrast, a RoP buyer will get survival benefits of Rs 4.9 lakh.
3. Guaranteed – How low can it get?
Some agents sell RoP as a compulsory saving vehicle for the spendthrifts. However, it hardly pays. In the above example, on an annual incremental investment of Rs 7,800, RoP provides a meagre annualised return of 4.1 percent over the 30-year tenure. Some insurers provide a little extra - 110% of premium paid. Even in such cases, the annualised returns increases to only 4.6% per annum.
From an investment perspective, RoP will erode your wealth over the long-term, as inflation levels are expected to be higher (six percent on an average) in India.
4. Surrender worries
You can stop or switch to other insurers anytime, if you are a term policyholder. However, in case of RoP, you end up losing a lot in the initial years, when surrender value is anywhere from 0-50% of the premium paid. While you have the option to make it paid-up (and don’t pay any more premiums), in the process your life cover also reduces year-after-year.
5. Taking you for a ride
RoP policies are often bundled with additional riders. From waiver of premium to cover for 38 critical illnesses, options are plenty. Check if you really need those covers or if there is duplication. You can also add it later, if need be. Read the fine print, to avoid surprises.
What steps to take?
Buy a pure term policy and invest the difference into equity mutual funds to earn inflation-beating returns..
Choose a term that coincides with your time of retirement and a sum assured that adequately takes care of your family’s needs.
As cliché as it might sound, separate the insurance needs from that of investment. RoP are not only costlier but also entail a huge opportunity cost. Investors are better off investing in mutual funds to build wealth.