Life insurance business – Components, human life value, mutuality
1. The Asset – Human Life Value(HLV);
We have already seen that an asset is a kind of property that yields value or a return. For most kinds of property the value is measured in precise monetary terms. Similarly the amount of loss of value can also be measured.
Example ;
When a car meets with an accident, the amount of damage can be estimated to be Rs. 50,000. The insurer will compensate the owner for this loss. How do we estimate the amount of loss when a person dies?
Is he worth Rs. 50,000 or Rs. 5,00,000?
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The above question has to be answered by an agent whenever he or she meets a customer. Based on this the agent can determine how much insurance to recommend to the customer. It is in fact the first lesson a life insurance agent must learn.
Luckily we have a measure, developed almost seventy years ago by Prof. Hubener. The measure, known as Human Life Value (HLV) is used worldwide.
The HLV concept considers human life as a kind of property or asset that earns an income. It thus measures the value of human life based on an individual’s expected net future earnings. Net earnings means income a person expects to earn each year in the future, less the amount he would spend on self. It thus indicates the economic loss a family would suffer if the wage earner were to die prematurely. These earnings are capitalised, using an appropriate interest rate to discount them.
There is a simple thumb rule or way to measure HLV. This is to divide the annual income a family would like to have, even if the bread earner was no longer alive, with the rate of interest that can be earned.
Example ;
Mr. Rajan earns Rs. 1,20,000 a year and spends Rs. 24,000 on himself.
The net earnings his family would lose, were he to die prematurely, would be Rs. 96,000 per year.
Suppose the rate of interest is 8% (expressed as 0.08). HLV = 96000 / 0.08 = Rs. 12,00,000
HLV helps to determine how much insurance one should have for full protection. It also tells us the upper limit beyond which life insurance would be speculative.
In general, we can say that amount of insurance should be around 10 to 15 times one’s annual income. In the above example, one should grow suspicious if Mr. Rajan was to ask insurance of Rs. 2 crores, while earning only Rs. 1.2 lakhs a year. The actual amount of insurance purchased would of course depend on factors like how much insurance one can afford and would like to buy.
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