What is Life Insurance and How Does It Work?

Life insurance is a type of financial protection you buy to support your loved ones if something happens to you. It’s a contract between you and an insurance company: you pay a certain amount of money (called a premium) regularly, and in return, the insurance company promises to pay a certain sum of money (called a death benefit) to your beneficiaries in case of the unfortunate event of death.

Life insurance aims to provide financial support to people who depend on you (the beneficiaries), such as your family, in the unfortunate case of you no longer being there to provide for them. There are different types of life insurance, but the basic idea is to ensure your family won't struggle financially after you’re gone. In this article, let us see how life insurance works and what are the different criteria needed to get life insurance for you and your family members.

What Is Life Insurance?

Now that we understand what Life Insurance Policy is, consider the following example.

Let us assume that Mr. Yash buys a Life Insurance Policy from Shriram Life Insurance. He opts for a 20-year term policy with a sum assured of ₹10 lakhs and agrees to pay an annual premium of ₹25,000 for the full 20 years.

Here’s how his policy would work:

If Mr. Yash completes the Policy Term

1. Over the 20 years, he has paid a total of ₹5 lakhs in premiums.
2. At the end of the 20 years, Mr. Yash will receive the maturity benefit of ₹10 lakhs (the sum assured) plus any bonus or investment returns if applicable.
3. The policy will end once the maturity benefit is paid out.

In case of the unfortunate demise of Mr. Yash Dies during the 10th Policy Year

1. By the 10th year, Mr. Yash has paid a total of ₹2.5 lakhs in premiums.
2. In the unfortunate case of his death, his family or nominees will receive ₹10 lakhs (the sum assured) plus any bonus (if applicable).
3. The policy will terminate after the death benefit is paid.

If Mr. Yash opts for Premium Protection in the Policy

1. In the unfortunate event of Mr. Yash passing away in the 10th year, his family will receive the death benefit of ₹10 lakhs immediately.
2. The policy will continue accumulating the investment value, typically linked to the insurer's fund performance.
3. At the end of the 20-year term, the insurer will pay the promised maturity benefit of ₹10 lakhs (sum assured) plus any applicable bonus to the beneficiaries or as a lump sum to Mr. Yash’s family.

Types of Life Insurance

Term Life Insurance

Term Life Insurance is a type of life insurance policy that provides coverage for a specific period, typically 10 to 30 years. When you purchase a term life insurance policy, you agree to pay premiums for the duration of the term. In return, the insurance company will provide a benefit to your beneficiaries if an unfortunate event occurs during the policy term. Term Life Insurance is often more affordable than permanent insurance, making it an attractive option for people who want financial protection for their loved ones without high costs. For instance, the Shriram Online Term Plan provides women with great payout options, superior coverage, and lower premium options.

The main benefits of Term Life Insurance such as Shriram Life Family Protection Plan are its affordability, flexibility, and financial protection for your family. It provides your beneficiaries with a lump sum or income if you die during the policy term. You can also add riders to your policy for extra coverage, such as protection for critical illness or accidental death. Additionally, the premiums for Term Life Insurance may be tax-deductible, and your family's death benefit is generally tax-free.

Whole Life Insurance

Whole Life Insurance is a type of life insurance that provides coverage for your entire lifetime as long as you continue to pay the premiums. It combines a death benefit with a cash value component, which grows over time. One of the key benefits of Whole Life Insurance is the cash value, which accumulates on a tax-deferred basis. This cash value can be borrowed against or withdrawn for various needs or even used to pay premiums. Additionally, it provides a tax-free benefit to your beneficiaries. However, whole life insurance requires a long-term commitment. So, it is prudent to speak with a financial professional before opting for one.

What Affects Your Life Insurance Premiums and Costs?

Several factors determine your life insurance premiums, reflecting the insurer's assessment of your risk profile. Key factors include:

1. Age

• Younger individuals pay lower premiums due to a lower risk of early death and fewer health issues.
• Older individuals face higher premiums due to increased health risks.

2. Health

• Current health: Healthier individuals pay lower premiums, while those with chronic conditions face higher costs.
• Family medical history: A history of hereditary diseases may increase premiums.
• BMI: A healthy BMI can reduce premiums, as obesity increases health risks.

3. Lifestyle

• Smoking: Smokers pay higher premiums due to the risk of smoking-related illnesses.
• Alcohol: Excessive drinking raises premiums due to risks like liver disease.
• Risky activities: Engaging in high-risk hobbies or jobs increases premiums due to accident potential.

4. Gender

• Women generally pay lower premiums due to longer life expectancy.

5. Policy Details

• Coverage amount: Higher coverage and permanent policies result in higher premiums due to extended benefits.

6. Occupation

• High-risk jobs: Dangerous professions, such as construction or aviation, lead to higher premiums.

Life Insurance Buying Guide

Step-by-Step Guide to Purchasing Life Insurance:

Step 1: Calculate How Much Coverage You Need

Start by estimating how much life insurance your family will need. A common rule is 

Coverage =  (Annual Income × 10–15) + Debts + Future Costs + Living Expenses − Savings − Investments

This ensures your family can maintain their lifestyle and meet financial needs if something happens to you. You can visit Shriram Life Insurance plans to see which plans would suit your financial goals better.

Step 2: Gather Documents for Your Application

Prepare essential documents like a photo ID, address proof, and social security number (your Aadhar number). Collect medical history details, including existing conditions, medications, and surgeries. Have information about your job, income, and financial situation ready, such as pay stubs and tax returns. If you already have life insurance policies, keep those details on hand. Be honest, as inaccuracies can delay approval.

Step 3: Compare Policy Options

Request quotes from different insurers. Don’t just look at the price—compare coverage, benefits, and the company’s reliability. Understand the differences between term life, whole life, and universal life policies. Look into riders, conversion options, and potential premium changes. A financial advisor can help you pick a policy that balances affordability with strong coverage for your family.

Who can benefit from a life insurance policy?

What to Do Before Buying Life Insurance?

Before purchasing a Life Insurance Policy, it is important to analyze the death benefits and other financial obligations and goals. Let's break down the key factors:

Immediate Needs

• Medical Bills: Any outstanding medical bills or final medical expenses should be accounted for.
• Debt Repayment: This includes mortgages, car loans, credit card debt, and other outstanding loans.

Long-Term Needs.

• Income Replacement: Calculate the income your family relies on and determine how long they might need that income.
• Childcare Costs: If you have young children, factor in the cost of childcare until they reach adulthood.
• Education Costs: Consider tuition, fees, and living expenses for your children's education.
• Retirement Savings: If your death could impact your spouse's retirement plans, factor in the amount needed to maintain their desired lifestyle.

A More Detailed Approach

While the 10-15 times annual income rule is a useful starting point, a more accurate assessment involves a detailed financial analysis.

Here's a suggested approach:

1.    Create a Financial Inventory: List all your assets, debts, and monthly expenses.

2.   Estimate Future Expenses: Project future costs, such as college tuition and retirement savings.

3.   Consider Inflation: Account for the rising cost of living over time.

4.   Consult a Financial Advisor: A professional can help you assess your needs and recommend the appropriate coverage.

How Life Insurance Works

Death Benefit: The core component of life insurance is the death benefit, a lump sum payment made to your beneficiaries upon death. This payment can help cover final expenses, and debts, and provide ongoing financial support for your loved ones.

Premium: A premium is the regular payment you make to the insurance company to maintain your policy. The premium amount is determined by several factors, including:

• Age
• Health
• Occupation
• Lifestyle
• Policy Type

Cash Value (Permanent Life Insurance Only): A portion of your premium in a permanent life insurance policy accumulates over time, creating a cash value. 

This cash value can be:

• Borrowed Against: You can borrow against the cash value, but interest will accrue on the loan.
• Withdrawn: You can withdraw funds from the cash value, which may reduce the death benefit.

Life Insurance Riders and Policy Changes

Policy Customizations:

• Riders: Additional coverage options that can be added to your policy, such as:
  • Accidental Death Benefit.
  • Critical Illness Rider.
  • Long-Term Care Rider.
  • Waiver of Premium Rider.
• Policy Changes: You may be able to make changes to your policy, such as increasing or decreasing the death benefit or adding or removing riders.

Qualifying for Life Insurance

Eligibility Criteria:

• Age: Most insurers have minimum and maximum age limits.
• Health: Your health history and current health condition can affect your eligibility and premium rates.
• Occupation: Hazardous occupations may require additional underwriting or higher premiums.
• Lifestyle: Factors like smoking and excessive alcohol consumption can impact your eligibility.

In conclusion, life insurance is a valuable tool for financial security. By understanding the different types of policies, factors affecting premiums, and the steps involved in purchasing life insurance, you can make informed decisions to protect your loved ones. Remember to assess your specific needs, compare policies from different insurers, and consult a financial advisor to ensure you have the right coverage. By taking these steps, you can know that your family's financial future is secure.