Return of premium: What's it worth?

Life insurance has always been looked upon as sacrosanct: something that is revered by most; both for its insurance component as well as for its savings element. Individuals have generally thought of life insurance as giving them a certain amount on maturity.

This mindset sometimes hinders their views on a term plan. This is where 'return of premium (ROP)' plans come into the picture. But are ROPs really worthwhile?

A return of premium plan, simply put, is a term plan that returns all the premiums paid to the individual if he survives the tenure. This is unlike a regular term plan that has no maturity value. In other words, premium paid on a regular term plan should be treated strictly as a 'cost' and not as an investment.

How do the two compare with each other? An illustration will help in understanding things better.

ROP vs. Pure Term Plan

	Age (Yrs)	Term (Yrs)	Sum assured (Rs)	Premium (Rs)	Maturity value (Rs)
ABC Ltd	30	25	1,000,000	9,047	226,175
XYZ Ltd	30	25	1,000,000	2,800	NIL
Premium difference				6,247

As can be seen from the table, an individual aged 30 years, decides to buy a return of premium plan from ABC Ltd. for a sum assured of Rs 1,000,000 for a 25-year tenure. The premium he will have to shell out for this plan is Rs 9,047 p.a. The net premium outgo over a 25-Yr period would be Rs 226,175, which would be returned to him on maturity.

Compare this to a term plan from company XYZ Ltd. Here, other parameters remaining the same, he will have to shell out Rs 2,800 as premium. Since this plan is a pure term plan, the premiums will not be returned to him. The difference between the two plans works out to Rs 6,247 p.a.

What's the alternative?

Amount invested per annum (Rs)	Tenure (Yrs)	Assumed rate of return (%)	Maturity value (Rs)
6,247	25	7	422,774
6,247	25	8	493,228
6,247	25	10	614,374

Presuming that the said amount of Rs 6,247

is invested elsewhere, the pure term plan works out to be a more intelligent option as compared to a ROP plan. The individual has got various investment options at his disposal.

Some of them include avenues like PPF, NSC or mutual funds. Without getting into the nitty-gritty of where the individual should invest his money, we have assumed returns at the rate of 7%, 8%, and 10%.

As the table indicates, a conservative estimate of 7% return would give the individual Rs 422,774. Which is more than what he would have got on the ROP plan. Along with the life cover of course!

In other words, were an eventuality to take place, the individual's nominees would not only have got the sum assured of Rs 1,000,000 on the term plan but would also have benefited from his investments.

Some ROPs offer an extended cover for say, 5 years even after maturity. But our calculations show us that even after factoring the above 'extended cover', the pure term plan still works out to be a cheaper option.

One reason why 'return of premium' plans do not look good is because, just like any other (endowment-type) life insurance plan, they too have to actually invest a certain portion of the premium to generate returns. How else will they be able to 'return' the premium to the individual after factoring in expenses like mortality charges and administration expenses (including commissions paid to agents) which all life insurance plans have to incur?

But the recovery in case of ROP plans only has to be to the extent of the total premium paid over the tenure of the policy. It doesn't have to give a return over and above the said amount.

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