What is a Death Benefit in Life Insurance?

Let's say Ramesh, a 40-year-old father of two, buys a life insurance policy with a death benefit of ₹1 Crore. He names his wife, Priya, and their two children as beneficiaries. If Ramesh were to pass away unexpectedly, his insurance company would pay the ₹1 Crore death benefit to Priya and their children. This money could help cover living expenses, children's education, mortgage payments, and other financial needs.

What is a Death Benefit?

A death benefit is a sum of money that a life insurance company pays out to the beneficiaries of a life insurance policy when the life assured passes away. This payout is the primary purpose of life insurance—it provides financial support to the life assured’s family or other designated beneficiaries during a difficult time.

How Does a Death Benefit Work?

Here is how the death benefit works in a life insurance plan:

• The Policyholder: The policyholder is the person who buys the life insurance policy. They pay regular premiums to the insurance company to keep the policy active. The policyholder could be you, your spouse, or anyone else taking out the insurance.

• Life Assured: The life assured is the person whose life is covered by the insurance policy. Often, the policyholder and the life assured are the same person, but not always. For example, you might take out a policy for yourself or your spouse.

• The Beneficiaries: The beneficiary/nominees are the people or entities who will receive the death benefit when the life assured passes away. The beneficiaries are typically family members, such as a spouse, children, or even parents, but they could also be a trust, a business, or a charitable organization.

• The Death Benefit Payout: When the life assured passes away, the life insurance company pays the death benefit to the beneficiaries listed in the policy. This payout is usually tax-free and is meant to provide financial stability to the beneficiaries.

Why is a Death Benefit Important?

Let us take a look at why the death benefit in life insurance is important:

• Financial Security: Similar to term insurance, the death benefit in life insurance helps replace the income that the life assured would have provided. This can be crucial for families who rely on a single breadwinner. It ensures that the family can continue to meet its financial obligations, even after the loss of a loved one.

• Debt Repayment: Many people have debts like home loans, car loans, or credit card balances. The death benefit can be used to pay off these debts, preventing the burden from falling on the family’s shoulders.

• Future Needs: The death benefit can help pay for future expenses like children's education, marriage, or other significant life events. It gives the family a sense of financial stability and peace of mind.

• Funeral Costs: Funerals can be expensive. The death benefit can help cover these costs, which can ease the financial burden during an already emotionally challenging time.

• Tax-Free Benefits: The death benefits offered under life insurance tax benefits are currently tax exempted as per the prevailing tax laws under section 10(10D) of the Income Tax Act. This ensures that your family receives a tax-free benefit amount in your absence to fulfil their financial needs.

What are the Factors that Affect Death Benefits?

Several factors can influence the amount of the death benefit and how it is paid out:

• Policy Type and Terms: Different types of life insurance policies offer varying death benefit amounts. The amount you choose depends on your family's financial needs, your income, and other factors.

• Death Benefit Payout Options: The payout option you select for your policy’s death benefit also impacts the amount your family will receive. If you choose the lump sum payout, your family will receive the entire amount as a death benefit, whereas if you have chosen the monthly option, the payout will be made in smaller amounts as instalments.

• Human Life Value: The human life value refers to the amount the policyholder is eligible to get life insurance for. This amount is determined by assessing your age, annual income, and existing life cover amount.

• Policy Loans and Withdrawals: If the policy has a cash value component and the policyholder takes out a loan against it or makes withdrawals, the death benefit might be reduced by the amount of the outstanding loan or withdrawal.

• Policy Riders: Some policies offer life insurance riders or additional options that can modify the death benefit. For example, an accidental death benefit rider may provide an extra payout if the life assured dies in an accident.

Wrapping Up!

The death benefit is a crucial aspect of life insurance that provides financial support to nominees after the life assured’s death. It helps ensure that the family can maintain their financial stability and continue to meet their needs even when the main income provider is no longer around. By understanding the importance and workings of a death benefit, you can make informed decisions about life insurance to protect your loved ones' future.