24/03/2017 11:20 PM IST | Updated 25/03/2017 12:14 AM IST

Mixing Insurance And Investments Is Rarely A Good Idea

There are some lousy insurance plans that mix investments with them.

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"You're going to need insurance," they tell you. And a lot of it, say the bankers, rubbing their hands in glee. And if you don't die, you'll get a lot of money back, they say. They're going to sucker you into a lousy product, and you know it.

There's very good reason to buy insurance. But it should never be to get more money back.

Life insurance is just: "Give my family money if...."

If you die, your family is going to need money. And possibly, a lot, since your spouse may need to stop working to take care of the kids, or work a lower-paying job. They're going to need money to pay off loans. And so on.

Insurance is a "premium" for someone to pay your family a big sum of money -- if you die. That premium is just a cost. For peace of mind.

You want to pay as little as possible to get this insurance cover, for that peace of mind. Like you do with car insurance. So when you buy insurance, keep that in mind.

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How much do you need?

A simple rule of thumb is: Multiply your monthly expenses by 300. That will cover your family expenses for around 35 years more. We assume the money will give returns about two per cent more than the inflation. That means a family spending ₹100,000 per month will need about ₹3 crores in insurance.

How ludicrously expensive is that? If I have to give an arm and a leg to pay for that insurance, I might as well be dead already. If you're 35 years old, all it will cost you is around ₹35,000 a year. That's ₹3,000 a month. And you get a tax benefit too. For a family spending ₹100,000 a month, this is what they'd spend in one day.

Why mix investments with it?

There are some lousy insurance plans that mix investments with them. They usually promise you'll get the premium back -- but it's at a significantly higher premium. The same ₹3 crores of insurance will require you to pay ₹15 lakhs per year.

And if you carefully look, they also would usually take between 5 per cent and 20 per cent in commissions, invest the rest, and make it look very big.

But it's not. It's made to look complex, but most such schemes are terribly inferior to buying insurance separately and investing the rest of the money on your own.

The plan: "term insurance" and a decent long-term investment

Here's a simple proposition: Put ₹3,000 per month in a term plan when you're 35. Put ₹30,000 per month into a long-term investment security (stocks, mutual funds or such), and increase this by inflation every year.

In 25 years, if you get long term returns of 12 per cent, you will have over ₹8.5 crores when you're 60. This will last you around 25 years more with no other income. And that's a better insurance plan than anything else.

Insurance is good. Investments are good. But when mixed into a single product, they make you poorer.