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How Does Life Insurance Work?

Life insurance is a priority in financial planning simply because it acts like a robust financial safety net for your family when anything untoward happens to you. It gives you peace of mind that all is well financially with your family in your absence. With so many life insurance plans available in the market today, choosing the right one can be daunting. So, how does life insurance work? The answer to this question if understood with clarity can help aid informed decision making.

Complete knowledge about the fundamentals, like the premiums to be paid, the coverage options, the benefits, the various plans, inclusions and exclusions, claim settlement, etc., will help you make the right decision. Read on for valuable information about how life insurance work and the various policies available to suit your requirements.

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How Does Life Insurance Work?

What Is the Purpose of Life Insurance?

How Does Life Insurance Work
October 28, 2024

Table of Content

 

The basic and foremost purpose of life insurance is to offer financial security to your family in the event of your untimely demise during the term of the policy. With the death benefit received, the life insurance beneficiaries can pay back debts, utilise the funds for educating the children, or meet other needs, including recurring monthly expenses. If you want to know how does life insurance work, then this is how it is. 

You will have to pay a premium fixed depending on the sum assured and the period chosen for which the insurance company pays a lump sum to the beneficiary upon your death during the policy period. Learning how life insurance work helps you choose the right policy.

What Does Life Insurance Covers?

Life insurance covers several death. However, many life insurance policies have a suicide clause that limits or denies death benefits if the policyholder commits suicide within a certain period, generally within the first two years of purchase. Before purchasing a policy, it is important to ask how does life insurance work? You should draw out all the information about the premiums, benefits, exclusions and inclusions, etc., to purchase the right life insurance plan.

The life insurance typically covers the death which could be due to various reasons like.

  • An accident, i.e. due to an unexpected incident. It could be a car crash, a fall, or any other unforeseen event.
  • Due to prolonged illness or any diseases like heart attack, stroke, cancer, etc.
  • Murder (except when the beneficiary is involved in the murder).
  • Death due to old age.

NOTE: These conditions should have been disclosed and assessed during underwriting

What Does Life Insurance Exclude?

To have an in-depth knowledge of the terms and conditions of life insurance, it is necessary to ask some questions like how does insurance work and how do life insurance policies work. If you are not aware of the exclusions in the life insurance policy before investing in one, any claims made in the future can be rejected, posing the reason. The exclusions are death due to:

  • Suicide if committed within the first years
  • Participation in adventure sports and any other dangerous activities.
  • Death due to pre-existing illness which is not disclosed applying for the cover
  • Drunken driving.
  • Participation in illegal activities.
  • Murder where the beneficiary is involved in the crime.

NOTE: These are some of the exclusions, For detailed list please check the policy Document thoroughly.

Types of Life Insurance Plans

Several players in the market offer varied life insurance plans that help meet the specific financial needs of their consumers. How does the insurance work depends on the type of plan chosen. To choose a policy that aligns with your financial goals, you should understand how do life insurance policies work. Elaborate information about the types of life insurance plans and how they work is given below:

  • Term Insurance

    • Term insurance is one of the most popular and cost-effective plans. It provides coverage for specific periods, and the premium remains unchanged till the end of the term. This plan provides a larger coverage for a smaller premium. The beneficiary(ies) will receive the sum assured in the case of the policyholder’s death within the policy term. Otherwise, the policy lapses at the end of the term.

  • Whole Life Insurance

    • Whole life insurance provides lifelong coverage. Whole life insurance premiums are higher than those of term insurance plans. A guaranteed2 death benefit is given to the nominee on the death of the policyholder within the policy period. This policy has a savings component in the form of cash accumulation that helps long-term financial planning.

    The comparison of term vs. whole life insurance explains why you should know how does whole life insurance work to make the right choice. Term insurance provides coverage for a limited period, whereas whole life insurance provides lifelong coverage with a cash accumulation component.

  • ULIP

    • ULIP Plan, i.e., Unit Linked Insurance Plan, has both insurance and investment components. Insurance provides financial protection for your family, while the investment component helps your money grow to fulfil future financial goals. A part of the premium paid contributes to life cover, while the remaining is invested in market-related assets of your choice.

  • Retirement Plans

    • Retirement plans are designed to take care of your living and medical expenses and other post-retirement needs. Pension plans like PPF, NPS, Deferred Annuity, Immediate Annuity, etc., are retirement plans that help create a corpus as well as a regular income stream required to lead a financially independent retired life.

  • Savings Plans

    • Savings plans inculcate a disciplined saving habit and provide stable returns that help you realise your financial goals. As these plans are life insurance plans, for instance, ULIP, they also provide life coverage that ensures financial protection to your family in your absence.

  • Health Insurance

    • A health insurance plan provides financial coverage for medical expenses, including hospitalisation, doctor consultation, surgery and nursing costs, prescription medicines, ambulance service, etc., and reduces out-of-pocket expenses for treatment of illnesses or injuries. This gives financial protection at times of medical emergencies and also provides access to timely and quality treatment.

Benefits of Life Insurance

The benefits of life insurance abound. To understand the benefits better, you should understand how does life insurance work. It provides your family financial security, ensuring that they are protected even in your absence. Learning how life insurance work helps you select a plan that aligns with your needs. Being aware of how do life insurance policies work makes your financial planning simpler. Given below are some life insurance benefits

  • Financial Safeguard for Dependents

    • A life insurance policy protects your family from financial hardships in your absence; It provides a lump sum to the beneficiaries as a death benefit if you die within the policy term. It helps your dependents manage expenses like outstanding debts, education, healthcare, etc. They can maintain their existing standard of living and take care of ongoing financial needs even in your absence.

    Understanding how term insurance works and how does whole life insurance work is very important to making the right choice. Term insurance provides life cover for a specific period, whereas whole life insurance provides lifelong (up to 99 years) coverage. Also, whole life insurance has the added advantage of cash accumulation that aids financial planning.

  • Tax Benefits

    • Investing in a life insurance plan also has tax benefits. Tax relief under Section 80C of the Income Tax Act 19611 is available for the premiums paid. The death benefit received under the plan is exempt from tax under Section 10(10D) of the Income Tax Act 19611.

  • Flexible Fund Allocation

    • Life insurance offers beneficiaries the flexibility to use the death benefit for their needs. They can allocate the funds for immediate financial requirements, long-term financial goals, healthcare, settling outstanding debts, or managing everyday expenses. They have total authority to use the funds as per their requirements.

  • Boost Retirement Savings

    • Life insurance plans like whole life insurance have a cash accumulation component. The accumulated cash value can be accessed during retirement. The provision to withdraw funds from the cash component helps supplement your income on retirement while continuing the life coverage. Plans like ULIP, Annuity, and Endowment plans are sources of additional income to maintain the standard of living even after retirement when the regular income ceases.

  • Emotional Security and Peace of Mind

    • Life insurance plans give you the confidence that your family is financially protected even in your absence. The fact that your family will not go through financial hardships if anything untoward happens to you gives you emotional security and peace of mind.

FAQs on How Does Life Insurance Work

Q. How does a life insurance policy work?

A life insurance policy gives financial protection to your family in exchange for the premiums you pay. The insurer agrees to pay a pre-decided sum assured in lump sum as a death benefit to the beneficiary if you expire during the policy term. The specifics of how does life insurance work differ with the type of plan you choose.

Q. Do you get money from life insurance?

Yes. A whole life insurance plan provides a cash accumulation benefit besides life cover. A part of the premium paid goes into cash accumulation, which grows over time. You can withdraw from the cash accumulated cash value to supplement your retirement income for your financial needs.

Q. What are the different types of life insurance policies?

The different types of life insurance policies are:

  • Term Insurance
  • Whole Life Insurance
  • Unit Linked Insurance Plan
  • Retirement Plans
  • Savings Plan

Q. How are life insurance premiums calculated?

The calculation of life insurance premiums depends on the sum assured, age, gender, lifestyle habits, medical history, tenure, income and occupation. The premiums are higher if you opt for riders to the base plan. However, the premiums differ from insurer to insurer. Understanding how does life insurance work and the life insurance features and benefits is essential to get optimum benefits at an affordable price.

Q. How do I file a claim on a life insurance policy?

A predetermined sum assured is paid to the beneficiary if the policyholder dies during the policy term. The claim process for this is simple. You can file the claim online, through SMS, or by physically handing over the claim application at the branch office.

Submitting the claim application along with the required documents will enable faster processing. The documents include a death certificate, hospitalisation and medical bills, beneficiary’s address and photo ID proof. All this should be completed within the timeframe specified by the insurer.

Related Articles

Ref links:

  1. https://www.forbes.com/advisor/life-insurance/how-it-works/

  2. https://www.investopedia.com/articles/personal-finance/121914/life-insurance-policies-how-payouts-work.asp

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Francis Rodrigues Francis Rodrigues

Francis Rodrigues has a decade long experience in the insurance sector, and as SVP, E-Commerce and Digital Marketing, HDFC Life, manages the online sales channel, as well as digital and performance marketing. He has had hands-on experience in setting up sales channels and functional teams from scratch over a career spanning 2 decades.

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Vishal Subharwal Vishal Subharwal

Vishal Subharwal heads the Strategy, Marketing, E-Commerce, Digital Business & Sustainability initiatives at HDFC Life. He is responsible for crafting and ensuring successful implementation of the overall organisation strategy.

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Disclaimer

1. Tax benefits & exemptions are subject to conditions of the Income Tax Act, 1961 and its provisions. Tax Laws are subject to change from time to time. Customer is requested to seek tax advice from his Chartered Accountant or personal tax advisor with respect to his personal tax liabilities under the Income-tax law.

2. Provided all due premiums have been paid and the policy is in force.

#Provided we have received all the relevant and required documents and no further investigation is required. Claim settlement process would be completed within stipulated timelines once the claim request is approved.

***Online Premium for Life Option for HDFC Life Click 2 Protect Super (UIN: 101N145V04), Male Life Assured, Non-Smoker, 20 years of age, Policy term of 25 years, Regular pay, Annual frequency, exclusive of taxes and levies as applicable. (Monthly Premium of 622/30=20.7).

ARN - ED/10/24/16456

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