Archive | December, 2011

Beaware of Endowment policies

6 Dec

Disclaimer: I am not against Insurance. One needs insurance. I am against endowment policies and against the mis-selling salesmen do as it fetches them the maximum fortune.

Background: Recently one of my colleague was pitched with a following insurance sales pitch.

Details:
1. Pay 1lakh per annum for next 15 years.
2. You would get 31% of total that on 16th year i.e 465000
3. And every year after that you would receive 1lakh each year till the death.
4. It has some life cover promises also… Which I do not know. Leave it as noone wants to think about the death to calculate the returns. And noone knows whether our loved ones would have the knowledge to get this insurance benefit.

At first hearing it sounds *great* like all other endowment policies.

Let me limit myself to only returns aspects of the policy.

Take excel sheet or openoffice calc.

In column A type date of premium payment.
In column B type the premium amount in positive or no sign.
On 16th year you would receive 465000 represent it as -465000(i.e All payments should be in +ve and receipts in -ve).

i.e
12/01/11    100000
12/01/12    100000
12/01/13    100000
12/01/14    100000
12/01/15    100000
12/01/16    100000
12/01/17    100000
12/01/18    100000
12/01/19    100000
12/01/20    100000
12/01/21    100000
12/01/22    100000
12/01/23    100000
12/01/24    100000
12/01/25    100000
12/01/26    -465000
12/01/27    -100000
12/01/28    -100000
12/01/29    -100000
12/01/30    -100000
12/01/31    -100000
12/01/32    -100000
12/01/33    -100000
12/01/34    -100000
12/01/35    -100000
12/01/36    -100000
12/01/37    -100000
12/01/38    -100000
12/01/39    -100000
12/01/40    -100000
12/01/41    -100000

You paid 15lakhs in 15 year and received 19.65 lakhs in 30 years.

Do you know your annulaized return?

Use the below formula
=XIRR(B1:B31, A1:A31)

It calculates the return to 1.9%.

Ok Let us live for 10 more years(Just extend the above excel) so that you get 10 more lakhs.

=XIRR(B1:B41, A1:A41)

It calculates the return to 3.83%.

I was curious to know the return if one lived for 100 years since the inception of policy.
=XIRR(B1:B101, A1:A101)

It calculates the return to 5.3%.
Beyond 100 years this rate remains flat.

If one lived for 700 years still the compounded return is just 5.34%.

I guess my calc’s XIRR becomes crazy with 1000 years data.

Point I make even the safe short term fixed deposit would beat such endowment policies.

Endowment policies are like a tarpit. Think a lot before landing there. Never trust the salesman. He makes straight 25% of your first premium and around 5-10% on further premium. Your money works best for him. Let your money work for you not for others.