Should You Purchase A Term Insurance With A Return Of Premium Option?
Jul 19, 2016

Author: PersonalFN Content & Research Team

“Kitna deti hain” was the famous catch line of Maruti Suzuki’s 2010 advertisement that rightly captured our obsession with mileage. The company touched emotional chords and made us smile when it brought to light our unwavering pursuit to earn maximum Return on Investment (ROI).

Since time immemorial, the ROI has been the guiding parameter for Indian households when laying down their investment decisions. And this ratio has been naively extended towards insurance too.

Insurance companies have exploited this attitude by offering “return of premium” option in case of term insurance plans. Unlike a pure term insurance plan, a term insurance plan with a return of premium option (TROP) rewards an individual for surviving the term. Although, TROP offers a near negligible IRR (Internal Rate of Return), investors find solace in the cash inflow on maturity.

But this myopic and rigid outlook towards money and insurance, in particular, hampers long-term wealth creation.

Here's an example:
Let’s take the case of Mr Shoham (age 35); who was approached by an insurance agent trying to sell him a term insurance plan with a return-of-premium option. Being a non-smoker and subscribing to healthy habits, he was in the pink of health.

He was confused between a pure term insurance plan and the term insurance plan with a return of premium option (TROP) for a sum assured of Rs 1 Crore.

Now, here were the details for the two:

Basic information under both the plans for Mr Soham
Plan Aegon Life’s iTerm Insurance Plan Aegon Life iReturn Insurance Plan
Type Pure Term Insurance Term Insurance with Return of Premium Option (TROP)
Current Age 35 35
Policy Term 32 years 20 years
Sum Assured (Rs) 1 Crore 1 Crore
Annual Premium (Rs) 10,076 25,803
Death Benefit (Rs) 1 Crore 1 Crore
Maturity Benefit (Rs) NIL 516,060
(Note: The above table is for illustration purpose only)
(Source: PersonalFN Research)

A pure term insurance would have fetched Rs 1 Crore as the death benefit, while a TROP over and above a death benefit of Rs 1 Crore, a maturity benefit in the form of return of premium of Rs 5,16,060 (i.e. Rs 25,803 x 20 years). Soham was quite enticed by the latter.

Was it a good option for him?

Well, let’s understand this in detail and analyse...

By avoiding the additional premium outlay of Rs 15,727 (which he would have otherwise defrayed) in Aegon Life iReturn Insurance Plan, it could have been deployed in any other wealth creating investing avenue. Say, he were to invest in Rs 15,727 annually in PPF account assuming a rate of 8.10% for 20 years, he would receive Rs 7,86,665 on maturity; which is Rs 2,70,605 more than the amount received under Aegon Life iReturn Insurance Plan (i.e. Rs 7,86,665 – Rs 5,16,060). This is by far the safest way to earn tax-free returns, undoubtedly!

Alternatively, assuming some risk, he can invest the incremental premium (i.e. Rs 15,727 annually) in a diversified equity mutual fund (through SIP) assumed to grow at a compounded annual growth rate (CAGR) of 12%, whereby he could fetch a sum of Rs 12,69,149 at the end of 20 years (which is Rs 7,53,089 more and a substantive sum to take care of some of his financial goals).

Comparative analysis of investment options for Mr. Soham
Particulars Aegon Life iReturn Insurance Plan Amount invested in PPF Amount invested in diversified equity mutual fund
Annual Premium / Annual investment (Rs) 25,803 15,727 15,727
Period (years) 20 20 20
Maturity Proceeds (Rs) 516,060 786,665 1,269,149
(Note: The above table is for illustration purpose only)
(Source: PersonalFN Research)

So what is the benefit of purchasing a term insurance plan with a return of premium option (TROP)?

None in particular!

With the growing awareness of personal finance, most individuals prefer to purchase term insurance plans. Insurance companies want to lure them by offering an “irresistible” term plan that offers a high sum assured, and also returns the premium that they have “invested”; conveniently ignoring the simple concept of time value of money all along.

To sum up: Remember, insurance is an avenue to indemnify risk—this is the primary purpose of insurance. However, it is often looked upon as a “risk-free investment avenue” by individuals valuing them at par with Fixed Deposits, PPF, etc. Insurance companies exploit the fractured money outlook of investors and roll out products with fancy names offering paltry returns.

However, ideally insurance and investment needs should be dealt with separately for optimal portfolio structuring.

A pure term plan is by far the most financially prudent decision you can make, instead of opting for a Return of Premium policy.

So remember, when purchasing insurance, be sure to take enough term insurance to adequately protect your dependents, and avoid the TROP gimmick.

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