Why a pure term plan + MF works better than traditional insurance policies

In fact, many of my clients are being approached by their bankers who are aggressively trying to push the sales of such plans by end of March 2023 and meet their sales target. And it’s not just the sales targets. These plans offer very high commissions to agents, at times as high as 20-25 percent of the first-year premium. So, it’s quite obvious why they would want you to buy it. Isn’t it?

But while the new taxation of these policies makes them further unattractive, even before this change, traditional insurance plans were best avoided.

Traditional life insurance policies neither provide sufficient coverage nor offer good long-term returns. Even when tax-free, the actual returns ranged from 4 percent to 6 percent only. The removal of the tax-free status of maturity proceeds of high-premium plans reduces the 4-6 percent returns even further. And this is the reason that you should avoid these irrespective of their current or future tax-free status.

Also read: Why avoid traditional LIC plans?

Don’t mix insurance and investment

This should be the driving motto of your decisions. While traditional plans, which have both insurance and investment components, claim to offer the best of both worlds, in reality, they offer the worst of both worlds. These plans offer low returns and also leave you underinsured.

A combination of simple term life insurance and investing the balance in mutual funds will give far higher returns and larger life cover, than investment-based insurance policies.

Let’s compare the insurance aspect of these first.

I checked the LIC website and found that a 30-year-old buying a popular LIC New Jeevan Anand plan for 20-year tenure for Rs 1 crore cover, will have to pay an annual premium of Rs 5.7 lakh. On maturity after 20 years, and ‘still’ assuming tax-free status, at 5 percent approximate returns that many of these plans deliver in reality, the amount available will be Rs 1.98 crore.
Now hold on and don’t get too excited. This figure of about Rs 2 crore is big but let’s compare it with what happens when instead of buying a traditional plan, we go for a simple term plan and equity funds.

I checked the simplest term plan offered by LIC, named LIC New Tech Term. For a cover of Rs 1 crore for a 30-year-old and a 20-year tenure, the premium was about Rs 11,000 only. Now we have a term plan that offers a cover (of Rs 1 crore) similar to what the traditional plan had. But we are just getting it for a premium of Rs 11,000 instead of Rs 5.7 lakh. So if we use the balance amount after paying the term plan premium, i.e. Rs 5.59 lakh (Rs 5.70 lakh – Rs 11,000) each year and invest in mutual funds giving 10 percent average returns, then do you know how much you will accumulate in 20 years? About Rs 3.52 crore.

Even if we adjust this for LTCG tax, it will still be much higher than what LIC plans offer as a maturity payout. This shows why the real cost of investing in wrong products is huge.

And that is why it makes sense to go for a combination of a term plan and equity funds rather than traditional term insurance plans. So don’t fall for the tax-free narrative that traditional life insurance agents will be aggressively pushing over the next one month or so. Stick to term plans for insurance and equity funds for your goal-based long-term investments.