How Your Term Insurance Premiums are Calculated?

In an open-floor discussion with our term insurance advisors, we came upon a few major insights -

An estimated 22% of term insurance plans are bought by individuals between 20 to 25 years old, 36% are bought by those between 25 to 30 years old, and 30% by those in the age slab of 30 to 35 years old.

This became an eye-opener: it was a clear indication of how the new generation was taking an increased interest in securing their and their family’s financial future. This was in complete contrast to what is prevalent in the market - Gen Z, X, and millennials are only interested towards investment channels and the stock market.

This left us wondering what could have been a potential catalyst in inspiring the newer generations to invest in securing their family’s financial future in the event of the policyholder’s death. While this is surely a smart financial move, we think - the increased lifestyle medical complications, increased number of chronic ailments, and the current brush with death during the COVID-19 might have motivated individuals to purchase term insurance plans as soon as they hit either of these life stage goals -

• Family planning (getting married/having or planning a child)
• Promotions/increments in jobs or starting a job
• Starting financial planning for the family, etc.

While this would definitely count as a success story for the IRDAI, who have been trying to increase the insurance penetration in India, in regard to policyholders too - they have scored a home run! The early realisation and follow-up on the need to purchase a term insurance plan will actually be rewarded over lower premiums.

And no, this is not a marketing gimmick! Take a look at how term insurance premiums are calculated, and you will know why this is true!

Heads Up: It takes an average person up to 5 hours to read & analyse a term life policy and 10 hours or more to compare different plans and make a decision.

This is why we propose a better alternative - taking a 30-minute FREE consultation with Ditto’s certified advisors. We have a spam-free guarantee, and we’ll never push you to buy a plan. Don’t delay this - we have limited slots every day, so book a quick call here before they run out.

How are term insurance premiums calculated?

First, let’s make this clear—term insurance plans are among the most affordable life insurance policies in the industry. Subsequently, they have become one of the most popular financial products, too, irrespective of the policyholder's age (unless they are 60+).

You must remember that your term insurance policy premium is a reflection of the insurer's underwriting team's evaluation of a number of factors. Now, while the actuarial science (the formula underwriters use to calculate premiums) involved in the calculation process may become too complicated to understand (and is often kept under wraps by insurers), acknowledging the factors that influence the term insurance premiums can be of substantial help -

What factors are considered when calculating a term insurance premium?

Term insurance policies, as stated before, are extremely affordable. Such plans are meant to offer a considerable amount that would act as your financial replacement in the event of your unfortunate absence. Hence, most term insurance plans offer a cover amount in crores. Now, since the payout is large and the premiums are comparatively nominal, insurers are particularly strict about the eligibility criteria involved. They include educational qualification, income slab, occupational risks, medical history, occupational risks, lifestyle, and habits in this list. Based on this, insurers can either provide a plan, extend a counter-offer with higher premiums or a different policy, or reject the application.

Understandably, similar factors are also taken into consideration when the underwriting team of a credible term insurance provider calculates the premiums -

1. Age of the policyholder: There is a reason why we always suggest that you go forward with an early purchase of term insurance plans, preferably in your 20s. The younger you are during the purchase of a term insurance plan, the lower risk (of immediate payout) you present to the insurer, who is extremely willing to offer you lower premiums. And since your term insurance premium gets locked in as per your purchase age, you will reap the perks of this lowered premium for the entire extent of your policy tenure.
2. Current financial liabilities: Your existing financial responsibilities are suggestive of your loans, EMIs, and your annual/monthly household expenses. This throws light on your bandwidth to pay off the premiums towards your term insurance policy, which in turn helps insurers determine your ideal term insurance coverage (you can compute your ideal coverage via a free tool, too), which contributes to the calculation of your premiums.
3. Term insurance coverage: If you factor in your age, dependents, current financial liabilities, income slab, and EMIs, you will get a quick idea of the ideal cover amount that will suit your customised requirements. However, when you apply to the insurer for this ideal cover amount, they might extend a counteroffer based on your eligibility criteria. This coverage amount will play a crucial role in determining your term insurance premium.
4. Tenure of the policy: While there are many term insurance plans available in the market offering up to 99 or 100 years (also called whole life insurance plans that also extend a dividend component) of coverage, we usually recommend that you cap the tenure at 65 or 70 years (no fixed thumb rule, depends on your dependents and your reason for availing the plan). Since term insurance plans are supposed to act as your income replacement, it doesn’t make much sense to extend the policy even when you don’t have a fixed source of income (after your retirement).

Moreover, in terms of premiums, the higher the tenure, the higher the premiums since there is a higher chance of death benefit payout (average life expectancy—70 years).

 5. Pre-existing medical conditions: When you have pre-existing medical conditions, it presents to the insurer and its underwriting team that you are more susceptible to frequent hospitalisation and acquiring of critical illnesses or death. Unfortunately, since lifestyle ailments such as hypertension, asthma, diabetes, etc., are on the rise and have become a common household issue, insurers can’t bypass the entire pool of potential policyholders. Instead, they just demand higher premiums to safeguard their financial interest, citing the high risk of payout as a reason. So, if you are a potential policyholder with a pre-existing medical condition, expect to pay higher than the standard premiums required for your coverage.

 6. Gender: In an attempt to boost the insurance penetration in India and to increase the interest of policyholders towards purchasing term insurance plans, under the guidelines of the IRDAI, insurers demand lower premiums from female policyholders as compared to that from male policyholders (against the same coverage). Additionally, underwriters also factor in the higher life expectancy of females than their male counterparts.

 7. Habits (smoking/drinking): Smoking/drinking is a gateway to contracting serious chronic ailments, which may give way to fatalities. Thus, those with smoking/drinking habits are required to pay a 50% - 100% higher premium than those with non-smoking profiles. Additionally, underwriters require you to fill in a questionnaire with queries about your frequency of smoking and follow that up with medical tests that need to corroborate your replies. So, you won’t have much of a chance to hide these habits from your insurer.

 8. Occupational risks: Individuals from the army/military/navy or other risky occupations often find it extremely difficult to purchase term insurance plans. This is primarily because the risks associated with their occupations significantly decrease their life expectancy. Even if insurers accept such term insurance applications, the premiums to be paid rise significantly since underwriters try to shield the insurer's financial health against the risk of death benefit payout.

How important is the role of underwriters in term insurance premium calculation?

Underwriting is key to calculating insurance premiums. It involves evaluating the risks related to the policyholder and the coverage offered to determine the appropriate premium rates.

Here's how underwriting typically works:

• Risk Assessment: The insurer evaluates factors such as age, occupation, health, and lifestyle to gauge the risk. Higher risks result in higher premiums.
• Medical Exams and Health Questionnaires: Policyholders might need to undergo medical exams or complete health questionnaires to provide detailed health information, aiding the risk assessment.
• Rating Class: Based on the risk assessment, policyholders are assigned a rating class that influences their premium rates.
• Underwriter’s Decision: The underwriter finalises the premium rates by considering all risk factors, medical information, and the rating class.

Underwriting is crucial for setting fair premium rates, balancing risk, and reducing the likelihood of costly claims, benefiting both the insurer and the policyholder.

How do you get a low premium on your term insurance policy?

Now that you know how term insurance premiums are calculated, it’s time you take a look at how you can keep the prices to a minimum -

1. Apply for a term insurance plan while in your 20s: Buy EARLY! That’s the most important secret to getting a low premium on top-notch term insurance plans. The earlier you purchase, the lower your premium and it stays that way throughout the policy tenure.
2. Quit smoking: If not for your health, quit smoking to get lower premiums on your term insurance policy. Remember, you have to have quit smoking at least 1 (or 2) years before you apply for a term insurance policy.
3. Compute the ideal cover and tenure of your term insurance plan: While a larger cover amount might seem tempting (considering it would make your family’s financial future more secure) and so would a longer tenure (since it would guarantee the death benefit payout), your financial bandwidth and potential might not agree with the same. On the contrary, it might just jeopardise your current financial standpoint by requiring more premiums than you can pay for. Additionally, this is a protection tool and not an investment or savings option. You might not want to keep all your financial eggs in one basket.

So, find out the ideal term insurance coverage and policy period use free tools before you finalise upon an amount or time period.

 4. Compare diverse term insurance plans from different insurers: While term insurance policies are affordable across the industry, there are some plans that are affordable, comprehensive, and come in with a lot of in-built perks, requiring no additional premiums to purchase term insurance riders. So, compare plans (using free tools) before you purchase a policy!

Here’s a quick look at some of the best term insurance plans -

What are the various premium payment options in term insurance plans?

Apart from the factors mentioned above, there is one more element that influences your term insurance premium amount - the frequency of your payment. Catering the diverse financial strength and payment potential of potential policyholders, insurers offer 3 types of premium payment frequency -

1. Regular: Regular Pay Term Insurance Plans require policyholders to pay premiums annually until the policy matures.

For example, if Ravina buys a term insurance plan at 25 that lasts until she’s 65, with coverage of ₹2 crores and annual premiums of ₹14k - ₹18k, she will pay this amount every year until she turns 65, which is when her coverage ends.

PREMIUM POV: With Regular Pay Term Insurance, you can choose to pay premiums monthly, quarterly, or annually. This results in lower premiums at each payment compared to a lump-sum payment.

However, when you add up the premiums paid over the years, you'll see they are much higher compared to those with a Limited Pay plan.

 2. Limited: Limited Pay Term Insurance Plans allow policyholders to pay premiums over a shorter period rather than throughout the policy's term.

For example, if Ravi, 30, buys a term policy that lasts until he’s 70 but chooses to pay premiums for just 10 years, his coverage will remain active until he turns 70. For a ₹2 crore policy, he’d pay approximately ₹55.7k - ₹67k annually for 10 years.

Limited pay options vary, typically including periods like 5, 7, 10, 12, or 15 years, or up to age 60, depending on the insurer’s offerings.

PREMIUM POV: Although the Limited Pay option provides the comfort of not having ongoing financial obligations, it comes with significantly higher premiums. Be sure to assess your financial situation carefully before committing to these higher costs.

 3. Single-time: With Single Pay Term Insurance Plans, you pay the entire premium upfront at the time of purchase. This approach often comes with significant discounts, making it cheaper than Limited or Regular Pay options.

However, there are two major drawbacks:

• It requires a substantial one-time payment, which can strain your finances.
• Insurers typically don't offer term insurance riders with Single Pay plans, so you miss out on additional benefits like Critical Illness coverage, Waiver of Premium, and more.

PREMIUM POV: The premiums are paid in one go and, hence, are substantially cumbersome for your financial health. On the other hand, since you pay off the entire premium, insurers are more likely to offer you discounts on your payment.

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Conclusion

Getting acquainted with how term insurance premiums are set helps you choose the right coverage. Insurers look at your age, health, gender, and lifestyle to figure out your risk and set premiums accordingly. Medical exams and health questions also play a part. By understanding this and following some simple tips, you might lower your premiums and get the coverage you need at a better price. Overall, buying term insurance is a key step in securing your family’s financial future.