Buying insurance for tax saving

The workbook is blunt about this one: at least three generations of Indians have grown up on a diet of buying insurance purely to save tax. The consequence is not harmless — it leads people to buy the wrong kind of insurance, or an inadequate amount of the right kind, because the product was chosen for its tax slip, not for the protection it actually provides.

The workbook's underlying position, stated elsewhere in the course, is that adequate insurance is the first step of any financial plan — a foundation, not an afterthought bolted on to save a few thousand rupees of tax.

The logic the workbook offers an adviser: tax saving on an insurance premium is real, and it does have value. But its correct role is to reduce the cost of a genuinely good insurance plan, or, in an investment-cum-insurance product, to enhance the return, which should then be compared honestly against an equivalent standalone tax-saving investment. Tax saving is a side benefit, not the reason to buy.

The workbook makes the comparison explicit: buying a term policy for pure protection, and separately putting the balance of the premium budget into the Public Provident Fund, will invariably beat the ultimate return from buying an endowment life insurance product for the same total outlay — the endowment product bundles high-cost insurance with a low-return savings component, and the bundling itself is what erodes the outcome.

The stated cure is to separate the two decisions: first establish the need for adequate, pure protection, and only then look at the poor comparative returns of investment-cum-insurance products against equivalent standalone investments — rather than letting the tax deduction drive the product choice from the outset.

Illustrative figures, following the structure of the workbook's own comparison.

Mr Trivedi, 35, has a budget of Rs 1,00,000 a year for insurance and tax-saving investment, and wants the Section 80C deduction.

Option A — endowment policy purely for the tax deduction. A Rs 25,00,000 sum assured endowment policy costs roughly Rs 95,000 a year in premium, most of it going toward the savings component at a modest guaranteed-plus-bonus return, with only a small slice actually buying risk cover.

Option B — the workbook's preferred split. A Rs 1 crore term policy (pure protection) costs roughly Rs 15,000 a year. The remaining Rs 80,000 a year goes into PPF, still claiming the same Rs 80C deduction, compounding at PPF's guaranteed rate with no mortality charges eating into it.

At the end of 20 years, Option B gives Mr Trivedi four times the life cover of Option A for a similar outlay, plus a PPF corpus that the workbook expects to outperform the endowment policy's bundled savings return over the same period — precisely the comparison the workbook says advisers should walk clients through, instead of letting the Section 80C deduction alone decide the product.

Chapter 17 (Behavioral Finance in Practice) names buying insurance for tax saving as a specific investor bias, immediately after chasing past performance, and prescribes the term-plus-PPF comparison as the corrective conversation an adviser should have. Expect a question on the workbook's stated remedy — highlighting the need for adequate pure protection and the comparatively poor returns of investment-cum-insurance products.

• The bias is buying insurance mainly FOR the tax break, not merely claiming a legitimate deduction on a well-chosen policy — the two are not the same thing.
• Term plus PPF (or an equivalent standalone tax saver) is the workbook's own stated benchmark comparison, not a general assertion without a named alternative.
• The usual consequence is twofold: either the wrong type of policy (investment-cum-insurance instead of protection-focused) or an inadequate sum assured, because the premium budget was set by the tax deduction ceiling rather than the actual protection need.
• This connects directly to asset protection need and income-replacement need — the workbook's broader message is that the need should drive the product, and tax should only ever be a secondary factor.