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POSTED BY ON November 2, 2010 12:42 pm COMMENTS (4)
I read that “As per the rule of insurance , Life Insurance is not some thing which one should use as a tool to make money , So a person should not be insured for more amount he deserves , A normal person with insurance requirement of X can not take 10X insurance cover”.
How does an Insurance Company calculate the maximum insurance limit of an individual. Is there any global formula or the calculation varies bewtween different insurance providers?
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The maximum insurance cover one can get from a single or multiple insurers together is based on the income and age of a person. Unlike other physical assets the human life cannot be assigned a value as such. Still a concept of ‘human life value’ developed to attach a numerical value to the human asset. So in a way this ‘human life value’ is the present value of the future income a person may earn. Usually for young age the HLV would be a higher multiplier of income because many years are yet to elapse till the person would retire from active life. For a aged person the no of years to retirement being lesser the income multiplier will be a low no to arrive at the HLV.
Typical multipliers available at different ages are as follow:
Age 20-25 yrs x @25 times
30 x @20-22 times
40 x @ 15-16 times
50 x @ 6-7 times
55 x @ 3-5 times
As the insurance concept works on the principle of ‘indemnity’ i.e. it only replaces a loss and you cannot make a profit out it. So if a car is valued @ 5 lakhs ,it cannot be insured for say 7 lakhs even if one is ready to pay premiums for it! When similar concept is applied to the human asset, the cover cannot exceed the HLV at a particular age. So the above mentioned multipliers are the indicative higher limits of the income. From company to company there could be slight variations in the acceptable income multiplier.
In practice very very few people would be found to apply for covers which come even near to these permissible higher limits.
It is an interesting study/exercise how much cover one should have or how much cover one could ‘afford’. What are the implications of or impacts of applying/opting different cover multipliers is not much written about. If someone poses that question I would love to share my views.
Just a parting question or remark from me. What is insurance-
1) An expense
2) Hedging mechanism
or 3) An Asset ?
Shashank
Excellent explaination 🙂 . Insurance should be considered as Hedge Mechanism .
Manish
Manish had written and excellent article on how much Insurance a person should need.
Below is the link –
http://jagoinvestor.dev.diginnovators.site/2009/11/how-much-insurance-cover-is-enough.html
I think max ins limit for an individual is 25 times your avg annual Income of last three years