Life throws countless risks our way, but there are a few major ones which can be mitigated with insurance, such as risks to life, health and wealth. Failure to hedge against these risks has huge consequences for us and our families.
Hence, a risk-first approach to financial planning mandates that at the outset we seek to mitigate the financial consequences of a major event such as death or an acute or chronic illness. The use of insurance to cover the threats to life and health is prudent.
Insurance may also be used to help build a nest egg, subject to a number of caveats as will be explained here, and legacy planning.
Mr Garry Chua, UOB's head of bancassurance in Singapore, says the importance of having adequate insurance cover is well understood by most, but many still have questions on how to plan their coverage.
"We believe the answer lies in looking at your needs and goals holistically across your life stages. Insurance can give you greater certainty about today, tomorrow and beyond, helping you feel more assured about all that matters to you.''
This really is the major function of insurance: To pay a benefit to policyholders should a risk materialise at some point in the future.
How much insurance do you need? The Life Insurance Association published a 2017 report which sought to quantify Singapore's mortality and protection gap. It quantified the total gap at $893 billion and found that while Singaporeans were covered for 80 per cent of their mortality protection needs, only 20 per cent of their critical illness (CI) protection needs were insured.
This study is a follow-up of an earlier study in 2012. It found that the 20 per cent gap for mortality cover remained unchanged from 2012, reflecting increases in wages, savings and insurance coverage. CI was a new component added in the later study.
Says Ms Pauline Lim, LIA executive director: "CI insurance is a crucial component of holistic long-term financial planning, given increased life expectancy, a growing incidence of chronic diseases, and escalating costs, all resulting in people living longer but in poorer health.''
Here are the rules of thumb that LIA applied in the study. For death cover, one needs the equivalent of about nine to 10 times the annual income of a working adult. For CI, the average cover needed is about 3.9 times of one's annual income.
You can work out your personal protection gaps with LIA's online calculators here.
Fortunately, it has never been easier to shop around for insurance. The CompareFirst website allows you to enter variables, such as age and type of insurance. For term life, it can reflect offerings for up to $1 million in sum assured.
If you have a substantial protection gap, consider using vanilla term assurance with no cash value as it is the most cost-efficient way to purchase sizeable protection.
As an example, based on data in CompareFirst, the lowest annual premium for a whole life plan for a 35-year-old male for $500,000 in sum insured starts from $5,090, for a term of 21 to 25 years. Using similar parameters, the annual premium for a $500,000 term life plan is $297.
CI plans may be purchased as a standalone policy or a rider for a base plan. Recent CI plans are vastly improved in designs and benefits - allowing multiple CI claims, for example, and a potential benefit of up to 500 or 600 per cent of the sum assured.
Savings and investments
Insurance products such as investment-linked insurance plans (ILPs) and endowments may also be used to help enhance savings. Such products typically bundle a minimal death benefit, so the primary objective is investment.
ILPs are basically investment funds with an insurance wrapper, where returns are not guaranteed. In ILPs, you make the investment and asset allocation decision and the volatility of the underlying funds is transparent.
Endowments are participating policies where premiums are pooled by the insurer into the life fund and invested collectively. A smoothing mechanism ensures that the returns that accrue to your policy are stable even amid market volatility.
With par policies, returns comprise the sum of guaranteed and non-guaranteed components. The smoothing mechanism gives the appearance of low volatility and risk. In reality, life funds are subject to risk. In an environment like today's where bond yields are very low, there is a risk that an endowment's maturity value may fall short of what was initially indicated as funds are reinvested in ever-lower yields.
Insurance products also lend themselves to legacy planning. This is a common instrument among the high net worth, but not exclusively so. With proper planning, the appropriate amount of insurance can fund your survivors' future living expenses, pay off outstanding debt, as well as leave a legacy.
Mr Chua says: "Leaving a legacy is not something only the ultra-rich are concerned about. It is not necessarily about leaving a large inheritance. It could be as simple as leaving your family debt-free or in a financially secure position when you are no longer around.
A number of insurance vehicles may be appropriate for this need, including whole life, term assurance, and universal life (UL) plans. The market offers a choice of ULs such as traditional UL which relies on a crediting rate for returns; variable UL which allows a policyholder to park his or her own financial assets into the plan; and indexed UL where returns are linked to market indices.
Addressing your protection needs
UOB's proprietary risk-first approach sees clients' financial needs as a pyramid. The base of the pyramid addresses the need to safeguard one's assets; the middle addresses the need to build assets. At the top of the pyramid is the need to enhance assets.
The need for protection sits at the base of the pyramid, with good reason.
Mr Chua says protection is the most important foundation of your financial plan. "With insurance protection there is greater assurance that you and your family can avoid financial distress should an unexpected event occur.''
UOB helps clients to address this need, using an omni-channel approach which gives clients flexibility in terms of how they wish to interact with the bank.
- UOB Mighty App
One way is the digital route via the UOB Mighty App. The app has a feature called SimpleInsure which enables clients to sign up for insurance solutions with a few taps. One such product on SimpleInsure is PruCancer360 which provides 100 per cent payout for all cancer stages up to age 100.
- Insurance Explorer
Clients who prefer personalised interaction may get in touch with their banker, who is equipped with a digital tool, Insurance Explorer. This tool provides an aggregated view of clients' existing policies, their income stream and expenses.
Mr Chua says: "It helps our customers identify their protection and savings shortfalls and simulates how various policies can help them bridge those gaps.''
An example of how Insurance Explorer works:
Anne is a 35-year-old professional with no dependents. She earns $8,000 a month, and incurs monthly expenses of $5,000.
The Insurance Explorer tots up her financial profile comprising her liquid and illiquid assets; inflows and outflows of cash; and desired retirement age of 62. Based on the inputs the system generates recommendations for insurance cover. These include critical illness cover for $384,000; personal accident cover for $96,000 and life insurance cover for $864,000.
The system also generates a target for her retirement savings pot of $1.175 million, based on her desired retirement income of $3,263 a month for 30 years. The assumed life expectancy is 92.
Genevieve Cua is the wealth editor of The Business Times.
Read other articles in our "Rethink Your Wealth" series below.