Articles

A life cover works better than a home loan protection plan. Simply because it gives more bang for the buck

There is the good sales pitch. And there is the bad sales pitch. And between them is the not- so-bad sales pitch. Before you start scratching your head on what we mean, allow us to explain. When an insurance agent asks you to invest in a unitlinked insurance plan (Ulip), promising that your money will triple in five years, that's the bad sales pitch. The money may or may not triple in five years. There are no guarantees. When a financial planner asks you to buy a term insurance policy to insure your life, that's the good sales pitch. In case something were to happen to you, your family will be financially secure. In between these lies the not-so-bad sales pitch, which you might just experience while applying for a home loan to fund your dream home.

The marketing manager at the bank/housing finance company (HFC) will try to sell you an insurance policy along with the home loan. Now, this is the not-so-bad sales pitch. The manager will tell you that if you buy this insurance policy, known as the home loan protection plan (HLPP), along with the home loan, then in case of your unexpected demise, the insurance company will pay the bank the principal amount of the remaining portion of your home loan. This, in turn, means that your family can continue living in the dream house.

And then, the marketing manager might also tell you that you need to make a onetime premium payment for the policy. And, on top of that, if you really don't have that money to pay the premium, even that amount can be built into the loan that you are taking. That, of course, will mean paying marginally higher equated monthly instalments (EMIs). So far so good. But what the marketing manager does not tell you is that you may be better off buying a term insurance policy on your life rather than taking an HLPP. So that makes this sales pitch a not-so-bad sales pitch. And, to know why it will be better for you to buy a term insurance policy just read on.

A Cover For Your Home Loan:

The sales pitch by the marketing manager is definitely not faulty and that's why we said it falls in the category of a not-so-bad-sales pitch. But, the euphoria of owning your dream house should not blind you to the fact that your biggest investment decision is being funded through a huge home loan. And, until you pay off this loan completely, you really don't own the house in the strictest sense of the term. The papers of the house continue to remain with the bank or the housing finance company you have taken the loan from. Hence, it's sensible to have an arrangement in place which ensures that your family continues living in the house if something were to happen to you during the tenure of the loan.

As Suresh Sadagopan, a certified financial planner, who runs Ladder 7 Financial Advisories says, "If something had to happen to you, your family shouldn't be evicted from the house just because they can't afford to continue paying the EMIs. It's natural that the bank will acquire the property if the borrower/family defaults on the home loan. Also, with spiralling real estate prices coupled with a huge loan amount, it's in the best interest of the borrower to take an insurance cover against the loan."

But does that mean you just go for the combination of home loan protection plan plus the home loan offer? The answer is No. You can go for a cheaper and better option in the form of term insurance. A term insurance cover is a pure insurance cover. In case of the death of the policyholder during the period of the policy, his nominee gets the sum assured (or the cover amount as it's commonly known). And if the policyholder survives the period of the policy, he does not get anything.

Term Insurance Vs HLLP:

A home loan protection plan works similar to a term life insurance policy. The risk cover/sum assured will be equal to the outstanding loan amount at any point of time. But home loan insurance works on a reducing balance principle. As the outstanding loan amount reduces, the size of the cover also reduces. Let us assume that you have taken a 20-year housing loan of 50 lakh at 9.5% as on November 2010. You have also opted for an HLPP with a sum assured of 50 lakh by paying a single premium amount of 1,72,650 (see table below). By December 2017, the outstanding loan amount will be over 41 lakh.

If the borrower dies at this stage, the insurer will pay off the balance 41 lakh directly to the bank or the borrower's family. If this example had to be extended to the term cover, the family will get the entire sum assured of 50 lakh. Even after settling the loan amount, the family can still make a saving of 8 lakh. So, even if the total premium outgo is higher for a term premium if paid for the entire policy term, it is still worth the buck. So the term plan is better.

A term insurance policy in this case will mean paying a premium of 11,236 per year or 2,24,720 in total. But the advantage is that it need not be a one-time payment as is the case with HLPP. "The biggest advantage of a term plan is that the life cover remains constant in a term plan over a period of time whereas in an HLPP, it keeps declining," says Amar Pandit, certified financial planner, My Financial Advisor. Secondly, you pay a one-time premium in a home loan insurance whereas you make periodic premium payments in a regular term plan. "You are spreading your payment over a period of time and hence the outflow for a certain risk cover is much lower in a term plan," Pandit adds.

"Under an HLPP, the principal amount, which is over 1.72 lakh, is parked with the insurer. If you stick to a conventional term plan from your early years, you will benefit from lower premiums. You can actually park the surplus funds in high-growth instruments such as equity-linked savings schemes (ELSS) initially, which also provide similar tax breaks instead of locking in at higher premiums," Sadagopan adds. You have a lesson to learn from these agents. Just as they have kept their best interests in mind, you have to make your own decision about your insurance needs which are unique to your family. There is nothing wrong in dreaming big. But it has to be supported by comfortable EMIs and strong protection. Buy your dream house and insure your loan with the right cover.