Seven mistakes to avoid

1. To think you have enough insurance: Most people are aware that they need to own some amount of life insurance. But most believe that if they have purchased enough to meet their tax-saving obligations and meet a few other expenses,that will suffice. Few are aware of the concept that the sum assured of their life insurance policy should be able to replace the income that the familys breadwinner earns,and continue to support the wife,children and other dependants in the style that they are accustomed to. The idea of having a policy that pays out seven to 10 times ones annual salary an amount that would easily be required for someone with young children often,to customers,sounds like an attempt to sell them a needlessly large policy.

Usually,insurance bought for tax-saving or investment does not suffice to meet the familys risk mitigation need.

2. To not talk about insurance: Life insurance is a topic that people normally dont want to think or talk about. Though it isnt compulsory to buy life insurance the way it is to buy auto insurance,it is morally necessary if you have dependants. You owe it to them to protect them from the loss of your capacity to earn an income. So give proper thought to the subject,gather the information that you need,and then buy adequate amount of life insurance.

3. To rely on simplistic rules of thumb: Traditionally,people have relied on a simplistic six to seven times income rule of thumb to calculate how much insurance they need. But thats not a useful measure,because peoples situations are so different. A single person with no dependants will need less insurance than someone with five children. Sitting down and thinking about the things you want to protect is the right way. How much would it cost to support your children in their current lifestyle? How much would it cost to pay for their college education,or to pay off the home loan?

Alternatively,you could try and calculate what is known as the human life value. Suppose you earn Rs 50,000 per month or Rs 6 lakh a year and you have 25 years to retire. Imagine that you expect your income to rise by 10 per cent every year and that you could earn an 8 per cent return on this income. Then the present value of your total income stream over the next 25 years comes to Rs 192.08 lakh. That is the sum assured you need to replace your total lifetimes income.

4. To ignore non-monetary income: Many people,when adding up how much of their income they would need to replace,forget about the benefits that come with their jobs,such as health insurance and retirement savings provident fund,a part of which is paid for by your employer. So long as you have a job,your employer pays the premium for the group health insurance policy that covers you and your family. But if you passed away,that benefit would no longer be available to your wife and child. So she would have to buy health insurance on her own. The life insurance cover should be able to cover the new health insurance bill.

5. To forget the long term: People often overlook how long their life insurance payout will need to support their children and other dependants after they die. If you have a child who is 10 years old,it will be at least 15 years before he is able to earn. You need adequate term coverage to provide for him and your wife for at least 15 years.

6. To think its too expensive: Many people mistakenly think life insurance is prohibitively expensive. But its possible to find a policy that fits both your needs and your budget. Term insurance,which provides temporary insurance for a specific time period,is more affordable than permanent insurance,which lasts a lifetime. People in India use life insurance as an investment tool while they should be looking at managing the financial risk of their dependants.

Those on a tight budget should choose term insurance. One of our customers,a married man with one child and another on the way,decided he needed to take out Rs 1.5 crore worth of term life insurance. His monthly payment,pending an assessment of his health,will cost between Rs 1,002 and Rs 2,109 per month.

7. To forget to pay the premium or to renew the policy: A common mistake people make is to forget to pay the life insurance premium on time,and also to renew their health insurance policy before the due date. Both these activities are as important as paying your home loan EMI equated monthly instalment or your childs school fee on time.

While the Insurance Regulatory and Development Authority IRDA has in its recent notification,effective June 1,2009,changed the way health insurance policies are renewed by providing a 15-day grace period,in case of life insurance it is imperative that you pay your premium on time. Allowing the policy to lapse is a serious error for anyone wanting to protect his dependants in case of an eventuality.

The author is chief executive of Policybazaar.com