It would be apt to say that insurance has become one of the most important necessities in the modern form of life. With rising insecurities about various accomplishments of life, insurance provides a much-needed relief in terms of assurance. It has also quickly become one of the components that employees receive now. It is also one of the most crucial financial decisions that one needs to make as they act as a safeguard for the family and the individual also. For everyone investing in an insurance policy for the first time, it is extremely important to understand how exactly the concept of insurance and insurance premiums works. And how exactly it benefits the insurer.
In this article, we will talk about Insurance and Insurance premiums, how they are calculated, what impacts premiums, why premium prices change, and other important aspects. But let us first understand what Insurance is.
Table of Content:
- What is Insurance?
- Defining Insurance Premium
- How Insurance Premiums Calculated
- Why does the Premium amount change in General Insurance
- What influences the insurance premiums?
- How to pay premiums: Annualy or Monthly or Installments
- How to manage insurance premiums
- Finishing Up
What is Insurance?
In simpler terms, Insurance can be understood as a contract between a person and a company (the company can be private or government). It is represented by a policy in which an individual, group of individuals, or entity can receive financial protection or reimbursement against losses. They receive such protection from an insurance company.
So, Insurance policies can be understood as a way to minimize financial losses, both big or small that may arise from damage to the insured product, property, or injury. There are many types of insurance policies such as Life insurance, health insurance, auto insurance, property insurance, etc. These insurance companies are willing to help you minimize your losses, all for a small cost. This small cost can be understood as an Insurance premium.
Also read: Importance of having an Insurance
Defining Insurance Premiums
An insurance premium can be understood as the amount paid by a person for the insurance cover. These insurance premiums can be paid on a monthly basis, quarterly basis, half annual basis, or annual basis but these premiums must be paid on the stipulated timing, or else the insurance policy might get lapsed.
For the multitude of insurance policies, the insurance providers stipulate the insurance premium beforehand. The premium is then scheduled in the best possible manner for the individuals. This depends entirely on the type of coverage and other factors requested by the individual such as the likelihood of making claims, employment details, medical conditions, among others. Similarly for auto insurance, the premium cost might also include the type of auto, engines used, condition of the vehicle among others.
The final amount that an individual pays also includes additional charges such as stamp duties, GST, and other smaller taxes. Sometimes, these charges make the premium big.
How are Insurance Premiums calculated?
Life Insurance premium is the amount that the insured needs to pay to keep the insurance policy active and stay eligible to gain its benefits. The insurance providers carefully determine the insurance premiums based on various factors as mentioned above. Some of these factors are:
Age
Age becomes an important factor while determining the price of insurance premiums. It is advised that insurance policies must be bought at a younger age to avoid high premium prices that come with high age.
Gender
While it may sound redundant, gender plays a significant role in determining the insurance premium. It is widely believed that women live nearly five years longer than men and hence they incur lower insurance premiums than men. Also, governments often bring out policies to help women insure themselves and due to that, the insurance premiums are often lower for them.
Lifestyle habits
Several lifestyle habits such as drinking or smoking or obesity caused due to them incur higher insurance premiums because individuals put themselves at risk. This increases their chances of availing the insurance more than the healthy person and hence the premium for such people is higher.
Medical History
People with medical history tend to pay higher insurance premiums than healthy people. In case of critical illness such as cancer or heart disease, the premium might even be higher. Therefore, insurance agents determine medical history before calculating the insurance premium.
Profession
Profession plays a critical role in determining the insurance premium. People with a secured job or in a government functionary tend to have lower insurance premiums than people with business liabilities or unemployment. People who work in high-risk occupations such as the mining industry, oil, gas, or similar have to pay a higher amount as insurance premium.
Lifestyle choices
Lifestyle choices matter a lot when it comes to determining the insurance premium. So, if you are someone who engages in life-risking activities such as mountain climbing, racing, air surfing, ice skating, aircraft jumping, etc, then you may incur a higher cost in your insurance premium.
Insurance companies make sure that they cover all of these factors before determining the cost of the insurance premium. In a different example, when you go ahead to apply to insure your car for a comprehensive or third party policy, the insurance cover provider will take information such as the worth of the car, how much has the car run, is it BSIV or BSVI engine, etc. All this comprehensive information helps the insurer determine the cost of the premium that they need to charge.
The companies also look at certain other data apart from the car’s information such as the following:
- If you park regularly at a place that has a history of higher car thefts, then your car is also at a higher level of risk of being stolen and therefore, it will incur a higher insurance premium.
- Similarly, the companies also look at the information of the driver such as their age, sex and insurance claims history. If you have a history of rash driving, you might incur a higher rate of premium than those who have a habit of safely driving their car.
All these factors are important given how certain behaviors are also counted by the insurance providers as part of their policy to calculate insurance premiums.
There are also cases where the insurance cover providers refuse to provide the cover to people who have a history of higher claims in the past. Such people, according to the insurance companies, might prove to be liabilities to them.
But at many times, you might notice that insurance premium prices change. You may wonder that if all possibilities remain the same, the premiums should remain the same also. Therefore, let us understand why premium prices change.
Why does the Premiums amount change in general insurance?
The insurance premium prices in general insurance and most likely health insurance, are likely to change every time you go ahead to renew your insurance. This will happen even if your circumstances don’t appear to have changed. But why is it so?
It happens because the premiums are affected by age, health status, probability of a claim, day-to-day factors which include the cost of doing business and changes in the way the risk has been assessed previously as well as government policies that come throughout the year and especially during the budgetary processes. If the government were to increase the Goods and Services Tax (GST) on insurance, the premium is likely to change even if it was not addressed earlier.
At other times, insurance premiums go up because the individual’s way of life has changed which has increased the level of risk in his life.
So, some of the reasons why premiums may change are:
- Inflation: Insurance cover providers often adjust their premiums with the rate of inflation in the country. This is done to keep pace with the inflation policies of the government.
- Taxation: As mentioned above, changes in the taxation slabs of the country might propel the insurance companies to increase their premium also.
- Individual risk: A reassessment of the personal risk by the insurer might change the insurance premium. If the risk has increased, the premium will increase and if the risk has reduced, the premium will decrease.
- The number of claims: If the claims in the industry have drastically increased, your premium might see an increase too. Large scale claims during any natural disaster such as floods and cyclones might force the insurance providers to increase the premiums.
- Return on Investment: Most insurance companies invest the premiums paid by their clients into markets. If the return on investment is low, that might increase the premium also.
- Regional or global changes: Such changes may affect the price and availability of reinsurance.
One of the factors that often confuses people is when the premiums change due to an unusually high number of claims in the past year. This usually happens after a natural disaster such as cyclone, flood, storms, and earthquakes force people to claim their insurance. During those times, insurers might need to increase the existing premiums to restore the balance between the pool of funds available with them and the risk.
Generally, when people receive notice of an increase in their premium, they often reassess their policies and often go for cheaper alternatives. So, when you go ahead to buy different insurance, it is important to see what suits you the best for you and what might cost you dearly.
What influences the insurance premiums?
So, when your insurance agent calculates the premium that you will be paying, they take into account several factors. These factors, however, change from person to person. Some of the key factors which influence the insurance premiums are:
- Types of covers selected
- Optional benefits requested by the individuals in their policy package
- Eligible discounts
- Previous claims history
- Incident history
- Frequency of premium payment: monthly, quarterly, half-yearly, yearly or even one-time-premium.
- Government taxes
- Sum assured
- A risk assessment by the insurance providers
- Term rider benefits
These factors impact the price of the insurance premiums that an individual would pay through their life to enjoy their claims.
Therefore, it is advised that insurance premiums be paid on annual basis for higher benefits than monthly subscriptions. Though monthly premium installments give you the benefit of not spending a big amount at once and make you feel light on pockets, this benefit definitely comes with an additional cost as it involves more administrative work.
How to pay premiums: Annually or Monthly or Installments?
Every individual who is going out to get insurance must also understand how they should go about paying the premium. Should they pay it monthly, annually or in installments?
While selling insurance, most insurance coverage providers offer discounts to customers when they opt to pay the entire premium at one go or annually up front rather than choosing monthly installments.
This happens because the administrative costs are less with annual payments as compared to monthly payments and other installments. The insurance providers also get strong investment returns if they get their premium at one go rather than in fragments.
Though monthly payments are less as compared to annual ones, they have higher administrative costs. If you multiply the monthly premiums by 12 months, you will understand that the premium you are paying is higher than what was earlier promised. This is because the administrative costs get added every time you pay a premium.
For monthly premiums, the insurers also add a small service fee to the entire amount which will not be present in the case of annual premiums. If you ask for a claim, you will still have to pay the entire premium.
Therefore, it is advised that insurance premiums be paid on an annual basis for higher benefits than monthly subscriptions. Though monthly premium installments give you the benefit of not spending a big amount at once and makes you feel light on your pockets, this benefit definitely comes with an additional cost as it involves more administrative work.
How to manage insurance premiums?
The insurance industry is highly competitive but each insurance provider provides something different which they call their unique selling proposition. Also, there are various variations available on general insurance policies such as exclusions, inclusions, excesses, and premiums. These variations provide consumers with plenty of options when they try to find the right insurance according to their needs.
Therefore, when you go out to buy the right insurance policy, you must take into account all these variations to get the best product that you desire. The policy must answer all that you are looking for in terms of providing you with the best financial assurance. You should never go for reducing the cover amount just to reduce the premium amount. Instead, you should work out a way that you get the best insurance coverage at the least possible premium. In that regard, it is imperative that you manage insurance premiums properly.
Here are some tips to manage your insurance premium:
- Increase your excess/deductible: You can reduce the amount of your premium by agreeing to take on a certain proportion of the risk by increasing your excess. Many insurance providers also allow you to specify an excess. The higher the excess, the lower you pay the premium. Therefore, you should increase the excess to considerably lower the premium amount. However, in case of a claim, you will compulsorily have to bear the deductible expenses, which may impact your savings.
- Lower your risks: One way of reducing the insurance premium amount is to lower the risk involved. You are entering into an insured life and hence you must change the outlook of your life. You should take steps to lower the risks such as not participating in life-threatening events. In doing so, you may coerce your insurance provider in providing you with a discount on your policy.
- Paying your premium annually: As mentioned above, insurance premiums should be paid on an annual basis to both reduce the amount of premium as well as to make a good case for claims. You can also save costs on the administrative side and service tax by doing so.
- Get discounts: If you look properly and offer counter offers on the table, your insurance cover provider may offer you some discounts which might make your insurance premium cheaper and lower. They will try to stand out to provide you with the best policy and that is where you can catch them.
Finishing up
Insurance is an important investment. It is the demand of the time we live in where uncertainty has crept up on people’s lifestyles. For a responsible and caring person, insurance guarantees life for their loved ones even in their absence and that is the noblest thing to do. Unfortunately, in India, insurance remains a secondary investment. Especially in a rural setup, insurance is still taken as an investment that has no significance and something which only rich and well to do think about.
On the contrary, Insurance provides the safeguard that allows you to lead a life tension free. But on the other hand, you must also understand how the insurance premiums work to get the best deals for yourself. In this article, we tried to bring to you all the relevant information about how Insurance premiums work and guide you to find the best scenario for your investment.
A financial planning platform where you can plan all your goals, cash flows, expenses management, etc., which provides you advisory on the go. Unbiased and with uttermost data security, create your Financial Planning without any cost on: http://bit.ly/Robo-Fintoo
Disclaimer: The views shared in blogs are based on personal opinion and does not endorse the company’s views. Investment is a subject matter of solicitation and one should consult a Financial Adviser before making any investment using the app. Making an investment using the app is the sole decision of the investor and the company or any of its communication cannot be held responsible for it.