How To Choose the Right Sum Assured Under a Term Plan?
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How To Choose the Right Sum Assured Under a Term Plan?

How To Choose the Right Sum Assured Under a Term Plan?
  • 11th Oct 2021 |
  • 495

When you finally decide to purchase a term insurance plan because you have dependents and want to protect their financial interests, the next step is to determine how much cover you need. The coverage amount you choose is essentially the sum assured of the policy.

In other words, the sum assured in a term plan is the maximum pre-defined amount that the insurance company pays the nominee in the event of the policyholder’s demise during the policy period. It is important to choose the right sum assured as it has a significant impact on the premium you pay for the policy.

Also, it must be adequate for your family to take care of their future expenses. So how can you choose the right sum assured when purchasing term insurance? Let’s find out.

Choosing Sum Assured Amount

Calculating a sum assured amount for your term insurance must be done by keeping the below factors in mind. These factors eventually will decide how much would be enough for your family.

The sum assured amount must:

- act as a replacement for your income in your absence

- cover all of your outstanding debts

- allow your family to maintain their standard of living

- allow your family to meet their future financial goals

But it can be difficult to accurately ascertain an exact figure just by looking at the above points. You may get a rough idea, but you cannot predict precisely how much would be enough for your family. To do that, you can follow the steps given below:

Step 1: Calculate your remaining earning years

First and foremost, you must calculate when you’d be retiring and how many years more you’d be earning. For example, if you are 30 years old and plan to retire at 58, you have 28 earning years left. This strongly impacts the sum assured you need since a term plan is an income replacement tool. If you have lesser earning years, you may need a higher assured sum and vice versa.

Step 2: Calculate your total annual expenses

Your annual expenses at present are taken care of by your earned income. Even in your absence, your family would need a source of funds to carry out those same expenses. And hence your term plan can come to the rescue. That is why when you calculate your assured sum, you must calculate your annual expenses. Add up all your recurring expenses like school fees, medical expenses, grocery and utility bills etc. Find out what your total outgo for these expenses is at the current price.

When you assess your income and expenses, you can use the following formula to decide the sum assured of a term plan for accurately.

Minimum sum assured = Annual Income x 10times + Loans/Liabilities

Step 3: Factor in Major Life Expenses

Some expenses are not recurring, but one-time expenses like higher education fees, wedding expenditure, vacation, etc. Your family will rely on your term plan for these expenses as well. So, you must chart out a detailed projection of when they’d need these amounts and what the amount would be. Based on your calculation, add these amounts to the sum assured calculation.

Step 4: Add liabilities and remove assets

Once you get a figure, add liabilities like a home loan, car loan and other debt. This is the total sum assured you need. But you may also have some assets like stocks and savings. Subtract those from the final figure, and the amount you get is the total assured sum you must choose for your term plan.

Thus, if you’re planning to buy a term plan, don’t just choose an arbitrary number or go with a number suggested by the insurance agent. Do the necessary calculations as mentioned above and figure out how much your assured sum should be.

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