How to choose payout option while buying term insurance4 min read . Updated: 12 Jan 2021, 05:54 PM IST
- Your decision to choose a payout option must be based on your family’s financial understanding, financial liabilities and any future goals.
A payout is death benefit given to dependants or beneficiaries of a term insurance policy when the insured dies. While signing up for the policy, the insured gets to decide how the death benefit will be paid out. Your decision to choose a payout option must be based on your family’s financial understanding, financial liabilities and any future goals.
Here’s a low-down on how life insurance payout works:
1. Lump sum payout
The lump-sum payout option is the most popular option. It entails receiving death benefits in one go. In case the policyholder dies, the insurer pays a lump sum amount equal to the sum assured to the dependent (nominee/beneficiary) of the policyholder.
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"When you opt for lump sum payout method, it becomes important to check the family’s financial literacy. This is because the amount that the dependant (insured) receives from the lump sum payout can be further invested and the insured can gain better returns from it over the years. For instance, some might have a need to pay off loans etc at once while some might need monthly payments to meet living expenses," said Naval Goel, CEO & Founder, PolicyX.com.
Similarly, Santosh Agarwal, CBO- Life Insurance, Policybazaar.com said, “People with better financial acumen and knowledge about investment avenues should go for lump sum payout options. But on the flip side, without a plan to use the large amount, getting a lump sum payment may not give you the right value for your money."
For instance, Mr X while buying a policy knew that he has huge liabilities to clear off. So, in a bid to ease the burden on the family he chose the option of lump-sum payout. He was also sure about the ability of his family to put the money to good use.
2. Staggered payout
If you are doubtful that your dependents may not be able to manage the huge amount received as death benefit efficiently, then you need not worry. To solve this problem, insurers also offer staggered payout options. In the staggered mode of payout, the dependents receive a portion of the sum assured as lump sum benefit and the remaining amount in monthly instalments for over 10-15 years.
“Staggered payout option is best suited for people who want to have a constant source of income and are doubting about using a huge amount efficiently. Under staggered payout options, insurers even offer a monthly income payout option under which the beneficiary will receive the entire sum assured in equally divided monthly instalments for a pre-fixed period," said Agarwal.
a) Fixed monthly payouts
The lump sum with fixed monthly income payout option enables the dependent of the policyholder to receive around 50 to 60% of the total sum assured amount as a lump sum and the remaining amount as monthly instalments.
Besides, some insurers provide 100% sum assured as a lumpsum payout plus an additional payout each month for the next few years to the dependent. For instance, if you have purchased a policy with sum assured of ₹50 lakh under this scheme, then your dependent/nominee will receive a one-time payout of ₹50 lakh immediately, and then a fixed monthly payout of ₹20,000 will be paid to him/her for the next ten 10-15 years, as per the scheme.
“This option allows you to clear all your liabilities and also enables your family to have a consistent source of income. For instance, this payout option helps the family of the insured to meet the one-time expenses like child’s education and marriage along with taking care of day-to-day financial needs," Singh explained.
b) Increasing monthly payouts
There is an option of increasing the monthly payout which constitutes the payments of the total sum assured in gradually increasing monthly instalments.
“Under the lump sum with increasing monthly income payout method, the financial dependents of the policyholder receive some portion of the total sum assured as a lump sum and the remaining sum assured in monthly instalments with an annual increase of 10% - 20%. This payout option is best to beat the high inflation rate," Goel said.
What you should do
With the fast-evolving financial landscape, both the options allow you to take calculative decisions as far as money is concerned. “With staggard’s monthly payout decision, you are likely to take short term money decisions which is a safe bet. But in a lump sum, you are likely to take long term money decisions which can be risky. So, risk appetite is the other determining factor to choose the payout option," Singh said.
Financial planning experts believe that if you have the good financial understanding and have the confidence that you will be able to manage the lump sum money efficiently, then can go for a lump sum payout option or else go for the staggered option that pays the sum assured as per your convenience and comfort.