Insurance policies require you to pay a premium for the protection they give you in return, in case of unforeseen circumstances. This premium is not a single chargeable amount, but is a collective sum of various charges put together. Here is a breakdown of its composition- what it has, and what you are actually paying for.
What Decides Your Premium?
Whether it is a single or a regular structure, insurance premiums vary not only from policy to policy, but also from person to person. Premiums are greatly dependent on the risk perceived by the insurer. Higher the risk perceived, higher is the premium. The main deciding factors are age, profession, place of residence and lifestyle. It is on the basis of these factors insurance companies fix your premium for the sum assured opted for.
Break Down of Your Premium
The premium of a life insurance policy comprises of various charges put together. Where some charges are common across policies, a few vary on the basis of the type of policy, whether, term, ULIP, endowment etc…
- Mortality Charges
The most important part, mortality charges are what you would be paying the insurer, for the cover you get in return. Considered as the actual cost of your insurance, it is a vital part of the premium (around 15%). This mortality charge is calculated by insurance companies by using what is known as a “Life-Mortality table”, prescribed by the IRDA. The calculation is based on the average Indian life expectancy ratio. It also considers gender, age, profession, place of residence and overall profile of the insured for calculation. The younger and healthier you are, mortality charges work out lower. Mortality charges are higher in riskier investment based insurance policies such as ULIPs in comparison to plain vanilla term plans.
- Fund Management Charges
The fund management charges are typically applicable to an investment-insurance policy such as a unit linked or endowment plan. For managing and investing your money in a particular fund, a fee is charged by the insurance company. The amount is anywhere between 1 to 1.5%, of the assets under management. Fund management charge greatly depends on the type of fund chosen. The more aggressive the fund manager’s role in the portfolio, the higher the charge, in comparison to a low risk debt fund. This charge is adjusted in the daily Net Asset Value of the fund.
- Policy Administration Charges
For the insurance company’s expenses towards paperwork, maintenance and administration, an amount known as policy administration charges is levied. Chargeable on a monthly basis, this is a flat rate that varies from insurer to insurer, and policy to policy. On an average it is around 0.5% of the annual premium chargeable per month.
- Premium Allocation Charge
Premium Allocation Charges are very typically associated with unit linked plans. Though termed premium allocation, it actually has nothing to do with allocations. It is that charge that goes towards, any commission/ service charge for the insurance agent. It is deducted from your premium before the balance is invested in the fund of your choice. Premium allocation charges are highest in the first policy year. It is deducted upfront from the premium paid on a yearly or monthly basis, depending on your policy
- Service Tax Charge
Mandated and declared by the government which is currently at 10%+ 3% education cess, service tax is applicable on all charges such as fund management charge, premium allocation, mortality.
- Other Charges
These below mentioned charges are levied along with your premium in case you exercise the options.
Rider charges: If you seek a more comprehensive cover and opt for a rider such as a personal accident cover or critical illness benefit along with your life cover, you are charges an additional premium amount. The cost depends upon on the rider you choose.
Switch Charges: If you opt to switch over from one fund type to another in your ULIP policy, you may be charged for doing so. This charge is levied when the switch is actually made, at is a flat rate.
- Towards Savings
Endowment and Unit linked plans guarantee a maturity benefit after the policy tenure. To cater to this, a portion of the premium is invested in various avenues such as bonds, government securities, and GILT and money market instruments. This is not really a charge but a contribution that is made by the policy holder towards building a maturity corpus, deducted from the premium.
A Final Word
What a premium comprises of depends purely on the type of policy it is. Pure risk term plans have a premium comprising of mortality, administration and service tax only. As a term plan does not have any maturity corpus, there is no requirement on the part of the insurance company to manage any portfolio. It is for this reason term plans work put as a cost effective insurance policy. On the other hand, unit linked plans, top the scale when it comes to high premiums. Considering the investment component in the policy it requires more management and administration, thus making it an expensive option.
Also, policies bought in the online mode, are void of any agents in the selling process. This makes online policies lesser than their counterparts as there are no agents commission, and costs towards sales and marketing.
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