Owning a home is a dream for most people living in our country. For young professionals living in the country, a home loan is often the best way to own a dream home. Home loans are now easily accessible with most lenders offering them at an affordable interest rate. However, one must realize that taking a home loan is a long-term commitment. In case of an unforeseen eventuality, the burden of paying home loan instalments falls on an individual’s dependents. If you wish to save your dependents from the this burden, a life insurance cover may provide you with the best possible solution.
Before we take a look at how life insurance helps avoid loan risks, let’s take a look at the ways in which lenders protect themselves from risks. The asset value of the property is the main thing that protects lenders from heavy risks. Most lenders in the market demand a downpayment of up to 20% of the property value. The default risk is relatively low when borrowers use their own funds for downpayment. In case of defaults, banks can simply take over the property and recover their losses.
Since home loan is a long-term commitment, banks consider the repaying capacity of an individual before offering a loan. Moreover, the monthly installment of a home loan will be equated in such a way that it is within 50% of the take home monthly income of the borrower. This will ensure that the borrower can afford making monthly payments easily over the course of a loan term.
When it comes to using a life insurance cover to protect against loans, a term plan works best compared to other forms of life insurance. The main reason is that term plans are cheap, and the benefits offered are multiple times higher compared to other types of life insurance. Most importantly, the cost of a term plan will remain the same once entered. The proceeds obtained from a term insurance plan can be used to cover a home loan as well as for managing other financial needs of the insured’s dependents.
Life insurance policies are designed in such a way that they could provide benefits to the dependents of a policyholder following his/her untimely death. The benefit offered by a life insurance cover comes in the form of lump sum payment. Most financial advisers suggest individuals to choose the sum assured amount large enough to cover a home loan. Through this way, the family of the insured will not have to face the additional burden of making EMI payments for home loans. Also, it is necessary to choose the policy term higher than the loan repayment term. This is necessary to ensure that the term insurance cover remains active throughout the loan repayment term.
Many life insurance companies in the market also offer loan protector covers for their customers. The main purpose of this loan protector policy is to take care of the outstanding loan amount in case of the unforeseen death of the insured person. Insurance companies mostly sell loan protector covers as single premium plans that cover the entire home loan amount for a specific period of time. The fixed premium amount is typically much costlier than that of a term insurance cover.
While the purpose of a term plan is entirely different from that of a loan protector cover, a well-planned term insurance cover can also double as a loan protector cover. Let’s compare the features of these two types of covers to get a clear picture of how they can provide coverage against home loans.
|Term insurance cover||Loan protector cover|
|This can be taken either as an annual premium cover or a single premium cover.||This is a single premium cover that can be taken for a specific period of time based on the duration of home loans.|
|This is a pure insurance cover that provides compensation to the nominee against the death of the insured.||This cover pays only the outstanding loan amount following the death of the insured. No additional compensation is provided to dependents of the insured.|
|The benefit remains constant throughout the loan term.||The benefit is depleting as the outstanding loan amount gets paid over the course of the years.|
|The benefit is payable only after the death of the insured during the policy term.||The benefit is payable against the death or permanent total disability of the insured.|
|This remains active throughout the chosen term as long as the premium is paid.||This will become void in case of foreclosure of the loan.|
|The benefit under this cover is payable even for death due to natural reasons if it is within the policy period.||The benefit under this cover is payable only against accidental deaths and deaths due to critical illnesses.|
|This cover expires automatically at the end of the chosen term.||This cover also expires automatically at the end of the chosen term.|
Here is a simple illustration of how both these plans work. Let’s say a person takes a home loan for Rs.50 lakh for a tenure of 10 years. If a loan protector cover is used to cover this loan, the cost of premium may cost around Rs.1 lakh for the 10-year period. If the person succumbs to an unexpected accident at the end of 4 years, the outstanding loan amount of Rs.30 lakh will be paid by insurer. In the same scenario, if a term plan is chosen for Rs.50 lakh and 10 years, it is likely to cost a lot less in premiums. Moreover, it pays the full Rs.50 lakh following the death of the insured person after 4 years. Here, the family can use Rs.30 lakhs to pay off the loan and keep the remaining amount for their personal expenses. In this way, a term plan can offer a lot more benefits compared to a loan protector policy.
Protecting their loved ones from the burden of home loan liability is the duty of every primary earner in a family. Loan protection covers are nowadays offered by many insurance companies in the market. Even home loan providers have started advocating for these covers in order to protect their investment. However, a term provides additional benefits in terms of covering the loan amount as well as paying for the livelihood of the dependent family members. When choosing a term plan, it is always best to choose the sum assured amount that covers more than the outstanding loan amount.