“Return of premium term insurance” does It make sense ?

A “Return of Premium Term Plan” – pays back all your premiums at the end of the period, whereas the plain term plan doesn’t return back anything. We have all now understood the importance of having a term plan, that said this writeup will guide you to understand which one to buy the plain term insurance where all premiums you pay every year are a pure expense or the return of premium plans which pay back all the premium you paid end of the term..(provided there is no claim 🙂)

Term plans have become very popular in the last few years. We are seeing so many advertisements screaming about term plans importance. However, a lot of investors who don’t understand term plans fully, still feel a pinch that their premiums get “wasted” if nothing happens to them. They equate “paying premiums” as “losing premiums” if they don’t die. They compare it with an investment policy (like traditional insurance plans) where they get back there a sum assured towards the end of the policy.

Insurance companies sensed this behavior and they introduced something called “Term Plan with Return of Premium”(TROP) which can now proudly tell customers that they have nothing to lose. They get claim money on death, and if they don’t die, they get back all their premiums paid. Many investors who do not understand the time value of money concept fall for a product like this, as to human mind “getting back all your premiums” sounds very attractive offer.

The premium for the return of premium term plan is higher than the plain term plan and it can be 2x-3x times the normal premium in some policies.

So basically, you are paying an extra premium for getting your premiums back after 30-40 yrs!

When I did my calculations taking an example of a plain term plan and return of premium plan considering various examples – Age 30,40 and premium paying term – 25,30,40,50 – the results will tell you why the return of premium plan is a farce.. the Annual (compounded) returns were below 4 % on all tenures and what s worse is that as the policy period went up the return were lower..

This means you end up locking your money into investments which yield below current inflation levels and hardly little above SB account rates of interest.  Not the way to go..

The Second major disadvantage is that the Return of premium plan ties you up with the product…which means suppose you want to stop the play after the 10^th premium, which you can easily do in a plain term plan – your mind will tell you that you just have to continue it for another 20 yrs and you will get back all your premiums. Very smartly, the insurance company has converted a pure term plan into an “investment policy cum term plan” with very bad returns…

So the better alternative than a “term plan with return of premium” is to buy a simple term plan and invest the extra amount in another investment products like PPF, FD’s, Equity mutual fund or debt mutual fund and you will have better flexibility and returns.

Author: Mr Nirmal M Jain | Mr Nirmal M Jain is a Co-Founder at HappyWise Financial Services. He has helped over 100 Families over the last 15 years of his services in the Financial Planning Sector. He has been a mentor to several people to help them better understand investments, stocks, mutual funds, financial planning, personal finance and above all his favourite term “The Power Of Compounding!”.