Updated: Feb 28, 2021
In shielding your Investments (part-I) we have discussed that how important it is to have an emergency fund, a fund that's a knight in shining armor for you in difficult times (like economic lockdown).
Not having a contingency fund will do nothing but harm to your financial growth! It will force you to withdraw your long-term investments (and who knows when & how much).
So to tackle this we came up with a solution to accumulate a separate fund of at least 3 times of your monthly expenses. (For instance, if your expenditure is ₹25,000 per month then 25,000×3 = ₹75,000).
Okay so now let's be more practical here! Are these savings gonna turn out to be enough during an emergency?
Well, that's pretty much a big question mark!
So what to do now?
One option is to accumulate more money in your emergency fund, let's say 8 to 12 times your monthly budget to eliminate this risk.
Ohh but wait.. is it a smart thing to do?
But why? that's the only thing you can do, right?
A smart person would do things differently here. The best thing to do here is to transfer the risk, yes you read it right I'm telling you to transfer your risk to someone else.
No, not to some other person you know! Obviously not.
I'm saying that you must shift this Financial Burden to insurance companies.
So you got the hint of how it will work. Let's make it more practical.
Let's understand it with an example.
Vikram and Gita, a married couple in their mid-thirties having two children. A girl child of 10 years old and a boy of 6 years old.
Vikram & Gita both are working parents. They both contribute equally to the family income, ₹22,000 each.
Their monthly expenses are around ₹30,000 (a major portion goes towards the education & well being of their children)
So what they do is accumulate a total sum of ₹1,00,000 as an emergency fund.
They are living in their own house & currently have the total Investments of ₹10,00,000.
Sounds perfect! Right?
But what if Vikram met with some terrible accident one day or get detected with chronic illness?
What if Gita passes away?
What if any of them faced disability due to some incident?
A most important question to ask here is:
Would you think their financial condition will remain stable?
Because both of them are the bread earners of the family and they are also having children who depend on them.
I'm not saying it should happen to someone but we all know it's a possibility.
It's something nobody can ignore (no one shall be more specific).
That's a risk we all face. And the best thing to do is to transfer such risks. I'm not gonna discuss the technicalities of insurance policy here. No matter what is your background, we all have enough information about insurance (Thanks to some institutions).
Having an insurance policy might be an extra burden on your pocket. But that's the money you pay to keep yourself as well as your family financially stable.
So I won't call it an expense. It provides security to your financial future (at least to the most extent).
In financial planning, we prioritise having a necessary amount of insurance over investments! Because that's something which secures the financial growth of an individual.
But as I said having a necessary amount of insurance is advisable.
If you have less insurance cover than your requirement then again risk is not fully covered. And if more cover than actual requirement, then it's probably a waste of money in the longer run.
So before you go purchase any insurance policy, do analyze your needs. Because you'll be paying a premium every year for up-coming 20-30 years (or maybe you are) and if you are having a policy which is not best suitable to your profile then it's just a wastage of your hard-earned money!
Don't you think so?
Insurance requirements vary from person to person and family to family. So it's pretty much complicated to generalize the health cover or life cover.
It is calculated by taking into consideration the characteristics of each family member. So you would rather consult with some expert than going with an agent's advice (well cause of Conflicts of Interest).
Thanks to 'insurance agents' for they have promoted insurance like anything. And also thanks to them for they mostly focused on selling policies & earning commission rather than putting client's interest first (and so we advisers exist, wink!)
Okay, so I hope you got an idea about the importance of insurance in context to Financial Planning.
And when it comes to life insurance, my professor used to say this, "Death of any family member should only be an emotional loss, not financial loss."
Well, that's it from my side.
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