Insurance Is Not an investment: Here’s Why?
The behavioral finance traits and preconceived cultural notions play a key role in influencing an individual’s financial decisions. As a result, many people think financial planning is all about making investments and generating returns.
However, the reality is far different from this. Financial planning constitutes numerous aspects that include credit management, optimization of expenses and income, managing liabilities and loans, budgeting, and even insurance and investments.
Investments and insurance are both two of the most critical components of effective financial planning and management. However, they are both designed to serve two different purposes making them very different.
What Exactly Is Insurance?
When one purchases a product or service in exchange for a certain sum of money is known as an expense. Insurance also works with a similar mechanism making it an expense and not an investment. Purchasing insurance means buying protection against any unforeseeable adverse event that might occur in the future.
This means if a person passes away after paying life insurance premium, the insurance company will provide the remaining family members with a certain significant amount of money to secure their financial future.
It is not to say that one can place a financial value on a person’s life, but the purpose of insurance is to mitigate the financial insecurities of the remaining family members of the insured. One needs to pay a certain amount of fixed premium to ensure their nominee gets certain monetary benefits in the form of a sum assured (SA) in case the worst happens to you.
The value of this sum assured is determined in many different ways, and one of the most prevalent is the Human Life Value (HLV). This approach leverages different factors, including your present and potential future earnings, age, liabilities from both present and future, and the generic levels of inflation.
This gives one the amount of sum assured, which is further used to determine the premium amount. In addition, your health condition, age, riders, plan specifics, and more also play a key role in determining the premium amount.
Furthermore, the insurance terms will dictate the period of time for which you need to pay insurance premiums. However, if you fail to pay your premiums, you automatically lose the benefits of the insurance policy. This is something pervasive among all services based on fee collection.
What Is An Investment?
Now that you have an in-depth understanding of insurance, it is time to polish your knowledge of investments. Investment can be defined as an asset or any other item acquired with an intention to generate returns, appreciation, or income. This means suppose you buy an asset today and know its value will appreciate in the near future.
Thus, investment does not mean buying something with an intent to consume the product or derive any sort of pleasure from it. For instance, suppose you buy a car today; you cannot consider it an investment because its value will only depreciate with time. On the other hand, buying a vintage car would be considered an investment because you know its value will appreciate with time.
Hence it would be totally safe to say that investment is only made with an intent to make more wealth in the future. Investment is generally concerned with the outlay of different capitals of the modern-day, including money, time, asset, and even effort. However, you do all that with an expectation to generate better returns in the future compared to the original value.
How Is Insurance not an investment?
Since you now have a better understanding of both investment and insurance, you should have a clear view of how they are different. Investment is where you expect a return which is not the case with insurance. Why? Because when you die, you do not get the benefits, but your nominee does, and if you manage to live through it, then nobody gets anything except the insurance agent and company.
Life insurance is a clear depiction of irony because it is not about the life of the insured but death. This is why many people choose insurance policies that give them at least something in return if they survive until the time of policy maturity.
The opinion of different individuals can vary based on many factors, but cultural expectations further generate this entire facade of misconception. This further results in more people selling insurance policies as investments. As a result, many in this country still remain extensively underinsured while paying high premium amounts to fatten the belly of insurance companies.
How Do People Remain Underinsured?
As with most insurance policies of the modern age, an average individual often ends up paying high amounts of insurance premiums while getting little to no returns for the same. As a result, people remain heavily underinsured despite paying very high insurance premiums.
For instance, suppose you are a 24-year-old looking for a life insurance policy of one core for thirty years this means you would have to pay a premium of about Rs. 8000 annually. However, this does not guarantee that your premiums will not get lost in the thin air, has been the case with many.
You would not want that to happen to you for self-explanatory reasons and hence choose an even better policy. A better policy also means more premium, which can be about Rs. 40000 to Rs. 45000 for the same cover. In such cases, people mostly choose to go for a policy with lower cover, such as Rs. 50 lakhs. Thus, the premium will cost you about Rs.20000 – Rs.25000. In all these confusions, you just reduced the financial worth of your life by 50%.
It is about time people keep their financial decisions segregated from all other types of undue influences and simply rely more on analytics than anything. This is the best way to move forward and get the appropriate benefits of financial investments. One can even opt for mutual fund investing, which is an investment, unlike insurance.