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Why You Should Not Be Overspending On Insurance Policies

Overspending (or over-saving) on insurance policies could be a sign of poor financial planning and why some insurance agents may not tell you that

by
Timothy Ho
October 19, 2015

Everything that is good in life requires striking a balance. Achieving work-life balance, having sufficient family time, or leisure time. Everything works great when it is done in moderation. This can be extended to the amount of money we spend on our insurance policies.

Here is a piece of advice that not every insurance agent may share with their clients – Don’t overspend on your insurance policies.

We know this may sound harsh, especially since there are plenty of good, hardworking and ethical agents out there who really want what’s best for their clients, but everyone should understand all sides of the story or at least hear a differing opinion before deciding what’s best for them.

Understanding Your Own Personal Budget

Most of us have jobs with predictable monthly income. For a person who makes $2500 a month, his monthly expenses could look something like this.

Item	Monthly Cost	Percentage of Income
CPF Contribution	$500	20%
Public Transport, Utility & Home Maintenance & Telecommunication Bill	$300	12%
Food Expenses (Eat Out)	$500	20%
Groceries & Necessities	$200	8%
Provision for parents, charities	$250	10%
Leisure Expenses (e.g. movies, hobbies, sports)	$100	4%
Discretionary Spending	$150	6%
Total	$2,000	80%

Our budget excludes any child expenses and doesn’t assume any loan repayments (e.g. mortgage loan, renovation loan, education loan). Based on such a budget, the individual will have about $500 of free cash flow each month. An enterprising agent who knows that may try to propose a policy (or policies), which may cost about $250 per month, or about 10% of monthly total income.

The Danger Of Overspending On Your Insurance Policies

Spending 10% of monthly income on insurance policies may sound reasonable, until you consider the fact that it is about 50% of your free cash flow. But then, some will argue, isn’t setting aside 50% of your free cash flow each month on savings is being prudent and even a good habit?

We beg to differ, especially if your savings is made in the form of a financial planning product.

We cringe every time we read an article someone shares about how an individual is putting in a significant chunk of his or her monthly income into various insurance schemes (frequently these include Investment-Linked Policies). We cringe not because we think the person is spending too much, but because the advice is usually communicated in a way that suggests that the more money you put in now, the better off your finances will be in the future. This simply is not true.

The point of having insurance is to ensure that you have coverage in place that you can sustain throughout a long period of time like 20 to 30 years. It isn’t about committing a significant chunk of your monthly cash flow to an expensive policy (or policies) today, and then thinking that doing so makes you financially responsible.

Lapsing On Insurance Premiums

The biggest risk you take on when you spend too much on insurance is that you will not be able to sustain the premiums in the long run.

However, when you are already spending 50% of your free cash flow on insurance premiums, you are not giving yourself flexibility to manage your personal finance. When an emergency strikes and you cannot sustain the premiums for even a short while in transition, the losses you will incur on what was meant to be your savings could be devasting to your plans for the future.

Some people reason that as their pay packages increase, the percentage of contributions will fall, but the opposite could easily happen as well.

The fact is that spending (or saving) $50 (or 2% of your income) a month on insurance policies could be more financially responsible and prudent than spending $250 (10% of income) a month on insurance policies.

The irony of this is that we are urging you not to overspend on your insurance coverage precisely because we think insurance is important, and that we don’t want you to lapse your policy in the future because you realise you were spending an unsustainable amount on it.

Consider Protection Policies Over Saving & Investment Plans

When it comes to life insurance, we are huge fans of term insurance for the simple fact that it allows most people to get sufficient coverage without spending too much money.

At about $30 per month, a person can get about 25 to 30 years of life insurance coverage of about $300,000. This affordable premium will allow a person to have more cash flow while concurrently ensuring coverage for his family.

With more monthly cash flow, a person can save up to build an emergency fund and also start investing in ETFs via an affordable monthly investment plan.

The best part about this is that it offers superior flexibility. If for any reasons you are not able to put in the committed investment sum for a certain period of time (perhaps, a sudden loss of job), you can simply stop without incurring any penalties that you would if you committed to do so with a financial planning product. Your current investments will continue to grow, while you take the time to recover from your situation.

Buying The Right Health And Life Insurance

Like all financial products, insurance is meant to help and support us, not the other way around.

It is worth setting aside a small amount of your income (e.g. 2%) to ensure that you have sufficient health and life insurance coverage, without compromising on other saving and investment needs that you also will have.

Remember, overspending on insurance isn’t always a reflection of good or responsible financial planning, regardless of what your agent might be telling you.

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