Life insurance: What does it mean and what are the types of insurance?

By Angel Broking | Published on 5th October 2020 | 50

Life insurance: What does it mean and what are the types of insurance?

When it comes to building an investment portfolio, most investors look at the returns that investments offer. And technically, placing returns as the primary concern while building a portfolio is not a bad thing. After all, the main purpose of investing is to earn returns on your capital, isn’t it?

But a portfolio that’s aimed solely at maximizing returns may not be the best option for long-term investors, because it doesn’t take into account other objectives of investing. Your investments should also give you financial protection and stability. And here’s where life insurance comes into the picture.

What is life insurance?

Life insurance is essentially a legal contract between an insurance provider and an insured person. Now, if you’re wondering how a legal contract can be a good financial investment, let’s get into the details. A life insurance plan obligates the insurer to offer financial protection to the insured party on the occurrence of a certain event. Most often, this event is the death of the policyholder. Most life insurance covers are valid for a specific term.

In exchange for the cover offered, the insured person is required to pay a premium to the insurer. This premium can be paid as a lump sum amount or as periodic payments.

A life insurance plan can offer two kinds of benefits to the insured person and their family.

– Death benefits

– Maturity benefits

Death benefits are paid out by the insurance company on the death of the policyholder. These benefits are paid to the nominees or the legal beneficiaries of the policyholder, and they’re guaranteed benefits.

Maturity benefits, on the other hand, are paid out to the policyholder if they outlive the policy. In most cases, this is a guaranteed amount. Keep in mind that not all types of life insurance plans offer maturity benefits. Some of them only offer death benefits. We’ll discuss more about this later in this blog.

What are the primary advantages of life insurance?

Including life insurance in your investment portfolio gives you two main advantages.

1. Immunity to market fluctuations

Firstly, life insurance makes a segment of your investment portfolio immune to market fluctuations. This is because in most types of life insurance plans, the death benefits and/or maturity benefits are guaranteed. In other investments like equity, debt, commodity or forex, there’s the very real risk associated with market fluctuations.

2. Liquidity

Life insurance also adds an element of liquidity to your portfolio. This is because death benefits and maturity benefits are both received in cash. In the uncertain times following the death of the primary breadwinner, this can be particularly beneficial, because it’s easier to meet immediate expenses, if any.

What are the different types of life insurance policies?

Given the advantages discussed earlier, there’s no doubt that life insurance makes your portfolio more stable and liquid. But then, there are many types of life insurance plans available in the financial market – term plans, endowment plans, ULIPs, whole life plans and pension plans. Each type comes with its own advantage.

Here’s a preview of these types of life insurance plans.

Term insurance

Term insurance is the most basic type of life insurance. Here, you get a death cover for a specific period. But there are no maturity benefits involved. Term insurance is also the most affordable kind of life insurance.

Endowment plans

If you need guaranteed death benefits as well as maturity benefits, then an endowment plan is a better option to consider. Here, if you outlive the policy, the insurance company pays you the predetermined, non-market-linked amount at maturity.

Unit Linked Insurance Plans (ULIPs)

Like endowment plans, ULIPs also offer both death benefits and maturity benefits. The key difference though, is that in ULIPs, the maturity benefits are market-linked. With ULIPs, the premium you pay is invested in market-linked funds. You have the freedom to choose the kind of investment fund depending on your risk profile.

Whole life plan

Term plans, endowment plans and ULIPs all offer a life cover for a limited period. But then, there are some plans that offer coverage for all of your life. These plans, known as whole life plans, offer life covers up to 99 or 100 years of age in addition to maturity benefits. They’re ideal for people who need a longer cover.

Pension plan

Pension plans or retirement plans are life insurance policies that provide financial security in the post-retirement phase. In addition to a life cover, these plans give the insured parties the option of receiving their maturity benefits as a lump sum amount on retirement or as periodic payments after retirement.

Conclusion

With so many options available, how do you choose the right kind of plan? Well, to do that, you need to factor in your investment objective, your level of risk tolerance and your investment horizon. You also need to account for the impact of inflation, so you can opt for adequate coverage from your life insurance plan.