What is an income replacement term plan in life insurance, and how does it help? Explained

There are several types of life insurance policies in India, the most popular one being the lump sum insurance policy that pays the entire amount in a single, one-time payment to the policyholder or beneficiary in case of the covered event (death, illness, etc).

This large payout policy provides quick money to the policyholder for large expenses like education, debt and funerals. Alternatively, if an individual wants to ensure that their dependent will be able to live their life comfortably if something were to happen to them, an income replacement term plan comes to the rescue.

What’s an income replacement term plan?

An income replacement term plan is a life insurance policy that pays out the death benefit as a regular income stream, instead of making a lump sum payout. This means that the beneficiaries get a regular payment (like monthly payments for 10 or 20 years) to cover their living expenses and maintain their lifestyle after the primary earner passes away.

The payouts in an income replacement term plan often start with a small lump sum for immediate needs, followed by periodic payments to replace a salary.

• Instead of a lump sum payout, the corpus is divided to provide consistent payments over a set period.

• It's designed to replace your income to cover daily living costs, recurring bills and maintenance of your current lifestyle.

• Some plans also offer increasing monthly payouts as inflation protection.

• Prevents immediate financial shock to the family.

Ideal for people who are not familiar with money management and won’t be able to manage a lump sum for the long term.

Notably, in the majority of term life insurance plans, wives are the nominees. This is because women don’t always have the privilege of getting financial literacy, and their financial awareness isn’t prioritised as much as that of men. When a nominee doesn’t understand money management, an income replacement term plan can help them.

Financial management with a lump sum would include budgeting, saving and investing, and for individuals who’re not familiar with all of this, it’s usually better for them to get monthly payments for their everyday expenses.

Can you take both plans?

Yes, individuals can take both plans, and it is even recommended by experts to get both lump sum and income replacement term plans so the family’s short-term and long-term needs can be met.

The lump sum plan would help them pay for the immediate expense, like debt, and the income replacement term plan would help them live their life on a daily basis and maintain their existing lifestyle.

For example, if you want to take a life insurance policy for ₹2 crore, you can take a lump sum plan for ₹1 crore and an income replacement term plan for ₹1 crore.

Some income replacement term policies even give you the option of having both options in a single plan. You can ask the insurer if you would like to withdraw 50% of the money as a lump sum and the other 50 as monthly instalments.

Can you claim multiple life insurances?

Yes, individuals can claim multiple life insurances as long as the total amount is less than their human life value. The Human Life Value (HLV) is the economic worth of an individual, which is calculated by insurers to determine the ideal life insurance amount needed to protect dependents from financial instability if the primary earner dies prematurely.

As a rough rule of thumb, a person’s annual income is multiplied by 30 to determine their HLV. The HLV is how much a person can then claim from one or multiple policies.

For example, if you earn ₹20 lakh, your HLV is ₹6 crore. So, you can take policies of up to ₹6 crore in coverage, whether it's from a single policy or multiple.

However, actual HLV calculations may consider age, expenses, liabilities, and future earning potential. Some insurers may use different multipliers based on the age of the insured person.