How ‘Human Life Value’ is calculated

Balaji is buying his first life insurance policy and comes across the term, ‘human life value’ while doing online search. He approaches his colleague, Vishwa who just purchased a life insurance policy to understand what the term means.

Balaji : Hey Vishwa, can you pull up your chair and help me with this term, ‘human life value’ or HLV and why it matters in insurance.

Vishwa : Yes sure. I was also boggled by the term, initially. But far from being a concept in high art, it is a widely applied tool in the drab field of life insurance. See, in the same way that you insure your car or home only to the extent of its value, HLV is a metric that estimates the value of the asset to be insured – in this case the value of your life, in economic terms. This is done to estimate the economic value needed as a replacement to ensure that your family is able to sustain its current standard of living, even after you pass away.

Balaji : So, it is about objectively valuing my income to replace it if the need arises?

Vishwa : Close, but accurately stated many more factors go into the approximation. Income-based estimation for instance, uses your occupation, age, benefits and income to arrive at your earnings potential from which your expenses are netted. These are then combined with your net worth which include financial assets, again net of liabilities. You can also compare it with output of the needs-based approach, where you simply estimate the funds that will be required to meet your needs and goals.

Balaji : With so many moving parts, estimating the right amount needed seems difficult.

Vishwa : It is not about a correct number, but about addressing all your assets, liabilities and net earnings and in estimating an amount which can economically replace it. Also, these are not stationary factors. As one moves along in life, all the factors, personal and macro-economic, too will change. So more often that not, a person would be required to increase the estimate later and hence increase the amount covered in life insurance. For instance, once an earning member takes a loan for a property purchase, his liabilities will increase significantly which will need to be covered with an additional life cover.

Balaji : Wouldn’t it be beneficial to just buy a cover high enough that addresses all needs and not be bothered about specifics?

Vishwa : If you can spare the extra premium amount, sure go for it. But if you ask me, I would rather pay a premium for a sum assured, that is most relevant to my current situation and not purchase a policy which is beyond my means for a sum assured that is way above my current life style.

Balaji : Ahh yes, no free lunch I suppose, always a catch. So how exactly did you go about estimating the HLA when buying your insurance?

Vishwa : I did indeed rely on ready-to-use interfaces that most life insurance portals now have. But since I know the mechanism of the calculations and the purpose of the estimation, I weighed my inputs accordingly. My wife’s parents have kept aside a fund for my kids’ education, so I was able to adjust for those obligations. This little piece of information lowered my sum assured and hence my yearly premium amount.

Balaji : Well, part of becoming an adult is to quantify your actions for better planning and control.

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