Life Insurance: Zero-cost plan is not for everyone

Some insurance companies have started offering what the industry calls zero-cost term plans. While the name of this new breed of term life insurance sounds appealing, policyholders should know that it doesn’t literally come for free.

Historically, there have been two types of term life insurance plans on the market – term-only and return-of-premium (RoP) term plans. Term-only plans offer nothing if the policyholder survives the contract term. However, the beneficiary will receive the insured sum if the person dies during the contract period. In contrast, RoP plans offer a premium refund if the insured survives the policy term, but are more expensive. To address the limitations of these two categories of life insurance, insurers have begun offering zero-cost plans that fall somewhere in between term-only and RoP plans in terms of features.

Zero-cost policies allow the insured to end the plan at a specified time and receive all premiums paid up to that point. However, this option is only available for very long-term plans. “Zero Cost Term Plan is the terminology commonly used for this function. Practically there are no free lunches, there will certainly be administrative costs etc. involved I think,” says Manju Dhake, vice president, insurance at 1Finance, a personal finance consultancy.

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This is how a zero-cost tariff works
“There is certainly a great deal of flexibility that is being offered. This benefit is offered as part of a regular term insurance plan – as a built-in feature with no additional premium. However, you cannot exercise the opt-out option at any time during the contract term,” said Deepak Yohannan, Founder of MyInsuranceClub. Let’s say you take a 40-year zero-cost plan that gives you the option to exit in the 25th year of the plan. After opting out, you will get back all premiums paid while the insurance company is faced with this scenario:

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Has received interest-free bonuses for 25 years
Has you off his books when you actually get a lot riskier (as you age).

advantages disadvantages
The zero-cost plan can be beneficial for those who want their money back if they survive to the contract term, or who otherwise consider buying a term plan a waste of money.

The requirement of the fixed contract duration in zero-cost plans could be one of the reasons why the premium is slightly higher than in pure term plans, according to Dhake. “The longer the contract period, the higher the premium in term life insurance. However, you need to assess your needs, understand the plan’s purpose or goal, and then make a decision on whether to enter into a product that best suits your life stage,” he suggests.

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should you buy it
“If you’ve saved enough and no longer need life insurance coverage, then it’s good to get your premium back and go on holiday. But if you’re using this to meet a cash crisis, it’s a tough decision because you’re dumping your coverage when you need it most,” Yohannan says.

Dhake says, “I suggest going for the plain vanilla plan because life insurance should be viewed from a protection perspective, where the investment or accumulation objective is maintained with other financial instruments.”

Know the risks
Purchasing plain vanilla term insurance is best, as life insurance should be viewed as a protection tool and not as an investment or wealth-building perspective
The option to opt out and get all bonuses back is only available for very long-term zero-cost plans, and then only after a certain period of time

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