Don’t Buy Insurance Only for Saving Tax - Save for Your Child!

Planning for your child’s future in advance can lower your financial stress.According to the latest reports, the cost of education in India is rising at a rate of 10 to 12% every year.Your child’s higher education is one of the major cash outflows that you must plan for. Fees for an engineering course todayis around Rs.6lac and is expected to touch Rs.12lacs in coming 6years, and by 2027, it would reach around Rs.24lacs.

While most of us are aware about the importance of planning for our child’s future, we fail to acknowledge its importance when the child is born. We plan for our children’s graduation, post-graduation and marriage, but do not consider the increase in our expenses right after the baby arrives. These expenses may include medical andhealthcare expenses, cost of hiring a nanny, schooling and even taking our little ones for vacations. These expenses can upset your budget and subsequently hinder your plans to save for the future.

When it comes to planning for your child, starting early helps yourealize your financial goals (for your child) and prepare for life’s eventualities in a better manner. The pre-baby arrival stage is as important as the post-arrival stage. A comprehensive policy can help you plan,prioritize, and investfor your child’s daily expenses, education and marriage at the same time accordingly.

Following are the steps you can take to ensure your child’s secure future:

• Start with the basics: Put together a to-do list and set a budget before your baby arrives so that things remain sorted for future.
• Buy a health insurance policy for yourself and your spouse: This may cover medical and hospitalization expenses before delivery, at the time of delivery, and post-delivery.
• Set aside emergency corpus: This amount should be enough to provide for at least 4-6months of your living expenses.
• Buy a life insurance policy for yourself as well as your spouse: Consider opting for a 20-year term insurance that would last until your child becomes an adult.
• Stick to the budget: The baby’s first year brings with it a lot more expenses like vaccinations, medical tests and other medical bills. Therefore, it is important for you to factor in all these expenses in your budget & adhere to your plan.
• Revisit your financial plans: New addition to your family requires addition of newer financial goals including saving for your child’s higher education, marriage and investing in his/her health plans.
• Invest in a child plan: Find out about child plan options that will allow you to invest on the behalf of your minor child.These plans will not only generate income, but also help save taxes.

The importance of investing in child insurance plan

Child plans provide security against constraints such as inflation and rising cost of education. They also ensure financial security of your child even in your absence. The maturity payout of a child plan can be interval based or in lump sum. The advantage of a child plan vis-à-vis other investments is the risk cover provided by these plans. 

Child insurance plans are available as traditional and unit-linked (ULIPs). A traditional child insurance plan invests your premiums mainly in debt instruments, such as corporate bonds and government securities, and offers guaranteed returns on maturity. It bears relatively lower risk and is suitable for parents who do not have a large risk appetite.

Parents who havea higher risk appetite can invest in unit-linked child insurance plans that investyour premiums across equity and debt markets. However, such plans prove to be advantageous over along term (about 15 to 20 years) as equities add a considerable amount to the corpus.

Factors to consider before buying a child plan

The abundantvariety of child insurance plans existing in the market can be a little intimidating, especially if you are a new investor. Hence, it is important for you to keep the following factors in mind before investing in a child plan:

• Identify your risk appetite: Ascertaining your risk appetite will help identify the right insurance product for you, amongst the traditional plan (low risk) and ULIP (high risk)
• Time of payout:Ask  about the time of policy payouts before you buy one. For example, if you want the money to come in a staggered format over a period of 4-8yrs to pay off your child’s college fee, you can opt for a ULIP plan. If you want lump sum amount at the end of the policy term or maturity, then you should opt for a traditional plan.
• Availability of riders in the plan: Riders offer extra protection to your child insurance plan at very less amount of additional premium. They may provide –
  • Accidental benefits:Protect child’s interest against loss of family income due to disability of parent(s)
  • Waiver of premium:Beneficial in case of death or permanent disability of the parent, leading to a halt in regular contribution towards child plan. As per this rider, the insurance company contributes premium on behalf of the parent. This is in addition to the term cover paid out to nominee.
  • Family income benefit: This isbeneficial in case of death of insured parent andsubsequent loss of family income. This rider provides the child/nominee access to 1% of sum assured every month (till maturity of policy), in order to maintain their lifestyle and  pay-off education fee and other bills.
  • Systematic transfer plan: STP in ULIPs provides the policyholder with an option to phase out his/her entry into the equity market at different times and at different levels. This has an effect of averaging out the risks associated with equity market andreduces the overall risk to the policyholder’s portfolio.

Planning well in advance (10yrs +) for your child’s future provides you with an opportunity to invest inrisky asset classes such as equity. Should your investment suffer any setbacks, it can be easily recovered if you have sufficient time in hand. This gives you a greater flexibility and opportunity to grow your wealth.

However, if the financial goal is 5-7years away, you must avoid investing in high-risk asset classes and instead, balance your portfolio with investments in equity, debt instruments and fixed income products. If your goal is just few years away (2-3years), you must completely avoid investing in equities and shift your investment to debt and fixed income products. 

As per section 80C of the Income Tax Act 1961, the premium paid towards child plans are deductible from your total income and hence, it qualifies for tax exemptions. Moreover, as per section 10(10D) of the income tax act, the lump sum amount that one gets as survival benefit during maturity is also tax free.

Major Investment Options

Here is a list of investment options you can choose from, depending on the age of your child:

Child insurance plan

Unlike traditional insurance plans that do not guarantee money availability for paying your child’s education fee (in case of your untimely death), child insurance plan protects your savings for securing your child’s future. The amount you set aside for this will be made available to your child only at the end of the plan. If you have 15-18years left before your child starts college, child insurance plan should be the preferred investment option for you.

Low-cost ULIPs

Low-cost ULIPs have been proving to be a tough competition for the mutual funds. The new avatar of ULIP is packed with features that have removed earlier redundancies. The first advantage is the tax efficiency of these plans. The newer version of ULIPs comes with 5year lock-in period. They are cheaper as the overall administrative and fund management charges are in the range of 1% to 2.25%

Mutual funds

Investment in mutual funds would cost you less than any other instruments. A balanced open-ended scheme that would offer more liquidity will help you save money for your long-term goals. However, don’t forget to look at asset allocation before investing in mutual funds as more allocation in equity could increase your risk.