Last Updated on May 24, 2022 by Anjali Chourasiya

When you purchase goods and services, you pay the price for them. Similarly, when it comes to buying insurance plans, a premium is payable for the policy that you buy. Most policyholders consider the premium to be the cost of the insurance policy. While, in layman terms, the premium is a cost, it has a more technical meaning attached to it. Let’s understand what insurance premiums are all about.

What is an insurance premium?

In technical terms, an insurance premium is the cost of the financial risk that you transfer to the insurance company. The insurance company promises to compensate you if you suffer a specific financial loss. 

For instance, in a life insurance policy, you insure the risk of premature death. The insurance company promises to pay a death benefit to your benefactor, should an untoward incident occur resulting in the loss of your life during the policy term. For this assurance, the company charges a premium which includes the cost of risk that the company is undertaking to insure you. 

In legal terms, the premium paid is the consideration for the insurance contract. You pay the premium, and in exchange, the insurance company promises to cover your financial risk and compensate you for the loss if the risk occurs.

How is the premium calculated?

There are different components to insurance premiums. Primarily, what the insurance company charges is the basic cost of insuring the financial risk. Besides this cost, the premium includes the following charges as well:

  • The administrative costs incurred in issuing the policy
  • The costs of managing the policy
  • The sales and distribution costs

All these costs are added to calculate the premium payable for the policy. These calculations are done by the insurance company internally. When you buy an insurance policy, you know the aggregate premium payable for the coverage, generally, not the break-up. This is where the difference in cost from provider to provider happens.

Factors affecting premium calculation

While the insurance company fixes the basic premium for an insurance policy, the actual premium payable depends on many factors. These factors either increase or decrease the premium. Moreover, the factors vary depending on the type of policy that you buy. So, here’s a look at some of the most common forms of insurance plans and the primary factors that affect their premiums:

Factors affecting life insurance premiums

Factors Impact 
Age Your age impacts your death risk. The higher the age, the higher the death risk. As such, premiums increase with age.
Medical history If you have past or current medical complications, the premiums would increase.
Family history If there is a history of disease in the family, the premium would increase.
Sum assured The coverage directly impacts the premium. The higher the sum assured, the higher the premium and vice-versa.
Lifestyle habitsIf you indulge in smoking, the premiums would increase. Similarly, the premium would increase if you drink regularly, given the increased health risks.

Factors affecting health insurance premiums

Factors Impact 
Age The higher the age, the higher would be the chances of illnesses. As such, premiums are higher for older individuals.
Medical conditionsIf you have existing medical conditions or have suffered from any complications in the past, the health risk would be higher. As such, the premiums would be higher.
Sum insured The higher the sum insured chosen, the higher would be the premium charged.
Members insured The premium would increase if you cover two or more family members under floater coverage. The member’s age would also be considered in premium calculation.

Factors affecting motor insurance premiums

Factors Impact 
Make, model and variant of the vehicleThe make, model and variant determine the vehicle’s value—higher the value, higher the premium and vice-versa.
Registration dateThe registration date determines the age of the vehicle. Older vehicles have depreciated values, and so, the premiums are lower.
Registration locationPremiums for vehicles registered in metro cities are higher than in non-metro cities.
Type of policyThird-party policies are cheaper compared to comprehensive plans, given the scope of coverage.

Factors affecting travel insurance premiums

Factors Impact 
Destination The premium depends on where you are travelling. Developed countries involve higher premiums since they are expensive.
Trip durationThe longer the trip duration, the higher would be the premium and vice-versa.
Age Higher the age, higher would be the premium and vice-versa.
Members insuredIf you insure two or more members under a floater plan, the premium would increase as each member’s premium would be added to the aggregate amount.

Insurance premiums and taxation

Life and health insurance premiums allow tax benefits. Premiums paid for a life insurance policy qualify for a deduction under Section 80C of the Income Tax Act, 1961. You can claim a deduction of up to Rs. 1.5 lakh on the premium amount. However, the premium should be limited to 10% of the sum assured. If the premium exceeds 10% of the assured sum, the deduction would be allowed only on the premium, up to 10% of the coverage amount. The excess premium would form a part of your taxable income.

In the case of health insurance policies, premiums paid for self, spouse and dependent children are allowed as a deduction under Section 80D. The limit is Rs. 25,000 if you are younger than 60 yrs old and Rs. 50,000 if you are a senior citizen. Moreover, suppose you insure your parents and pay a premium for their policy. In that case, the premium can be claimed as an additional deduction, i.e. in addition to the deduction available on your family’s premium. The additional deduction limit is Rs. 25,000 if your parents are below 60 yrs and Rs. 50,000 if they are senior citizens.

Conclusion

Premiums are the cost of insuring your risks. Many insurance plans allow you to pay premiums in instalments (annually, quarterly, half-yearly or monthly) too. So, after assessing your coverage needs, you may opt for suitable insurance plans. Choose optimal coverage and pick schemes that have premiums that are affordable to you. Pay your premiums on time and enjoy the financial security that insurance plans offer.

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