Stay Away From Lure Of Cashback While Buying Insurance

Do you love cashbacks?

Ask any shopper this question, and you need not wait to hear the answer. It is obvious, cash backs make the deal better. A cheaper offering or buying something at a discount to the fair price is always tempting. Many successful businesses are built on this premise, and many investors follow this concept to the ‘T'.

Read the paragraph above carefully, again. The ‘discount' is referred in terms of the ‘fair price', and not on the ‘list price'.

In order to attract new clients, several startups, from food delivery companies to e-commerce businesses, use this strategy very effectively to shore up their sales volumes. Since many of these goods are used or consumed on a day-to-day basis, we are aware of their ‘fair prices'. Hence, when a merchant offers a certain product below its ‘fair price', it's always a good bargain.

Why Do Such Discounts Exist?

• When someone has been able to source raw material or labour at an extremely low cost and the benefit is passed on to the buyer.
• When a business delivers sub-standard products, while the customer may have expected much better-quality.
• When a business sells the products at a loss, as part of a market-seeding strategy.

In most cases, in the recent times, it is because of the third option that we can avail all good quality products at a discounted price.

Over To The Financial Markets

The discussion so far has been in the context of physical goods. In the regulated financial markets, almost all products are standardised and there is no scope of diluting their quality. However, the stock of one company could be a poor investment choice in comparison to another; a certain health insurance policy may have lower cover or more exclusions; fixed deposit from a company could be of lower credit quality in comparison to another one.

Cashback In Life Insurance

The lure of cash-back works here too. Specially in the life insurance sector, there are two products that we would like to talk about in the context of cashback.

Money-Back Plans

Until a decade back, this product was pushed with the pitch that you would get back certain percentage of the money invested in a policy. This pitch made this product look attractive but over the years, it lost its sheen.

The problem is, although it combines insurance and investment in one, it fails to optimally satisfy either of the requirements.

Term Life Insurance Plans

In the last decade, attention has shifted to term life insurance products. They happen to be the cheapest product with the lowest premium range for risk cover.

It is this feature of the policy that makes it the cheapest, and it is the same reason why most stay away from such policies. “Kuchh toh wapas milna chahiye na”- is a very common argument.

This come from the psychology of expecting a cashback or feeling good about buying something at a discount. Similar happiness is witnessed when one gets an income tax refund, although it is the refund of one's own money – extra tax (an extra advance tax paid or extra tax deducted at source) that was paid to the Income Tax Department.

So, insurance companies have come up with a variant of a term plan where the premium is paid back at the end of the term, or on maturity. The buyers of such a policy seem to think that they are getting the best of both worlds – a low-cost insurance product and also the premium they had paid over the years. A closer scrutiny, however, suggests that this makes the product sub-optimal on many counts.

What the policyholder gets is a costly product – in terms of premium paid for the risk cover, and the return on investment is zero, since the only return is the premium paid.

Insurance is not the right marketplace to ask for cash backs. It makes the insurance policy costlier, and not cheaper. The money to be returned and the cost attached to the process are bundled in the premium payable for the same amount of risk cover.

It is better to consider a life insurance product as a train ticket – you need it while you are travelling, and it becomes useless once you finish the journey. Do we expect a cashback after we reach our destination? Similarly, a term life insurance policy is valid for the term. It is low cost, and hence affordable, and has no value after the term is over.

Consider a policy on its merits, and not because you are getting some cash-back.

How To Evaluate A Policy's Merit

One of the things you need to look at is the premium you need to pay for the life cover you are buying. Lower the premium, cheaper the policy. Also, check the claim settlement ratio.

• Is there a minimum lock-in period before which you are not allowed to withdraw?
• Even after that period is over, are there any withdrawal charges? Check the surrender value and do the investment returns calculation.

Take a wise decision, as the mind loves to play tricks. One of the easiest ways to be fooled is to look at partial information, e.g. a discount or a cashback, that blinds us from checking all the other details.

Amit Trivedi is an author and trainer, owner of Karmayog Knowledge Academy and author of Riding The Roller Coaster, Personal Finance Lessons from the ICU, and The Whole Thing Is That Ki Bhaiya Sabse Bada Rupaiya.

The views expressed here are those of the author, and do not necessarily represent the views of BloombergQuint or its editorial team.