Protection Planning: Matching Cover to the Risk, Including the Earning

Protection planning is matching each risk a household cannot absorb to something that would carry it. The risks are worked through in the order of what they would cost, not how likely they are. Most of them have no product at all and stay with the household. The few left are where cover is even a question, and the earning itself is usually the largest.

Underneath that sits one reversal doing all the work. The ordinary way in starts at the product end. The covers that exist are laid out, and the household is asked which of them it needs. The product-end question has no answer. Nothing has been measured yet, and every cover sounds arguable when it is described on its own. Start instead at the risk end, ask what could happen and whether the household would still be standing afterwards, and a short list falls out. The short list is short because most risks fail the test in the household's favour, and the order it comes out in has nothing to do with what anybody is selling.

What is protection planning, and why does it start from risks rather than from products?

Protection planningMatching the risks a household cannot absorb to something that would carry them, worked out from the risks rather than from the covers that happen to exist. is a piece of arithmetic wearing a serious name. The household writes down what could go wrong. The household writes down what each one would cost, in rupees, not in adjectives. Then it asks whether it could meet that cost out of what it can actually reach. Whatever fails that question is the only place where the word cover has any business appearing.

No cover has been named, nothing has been compared and no premium has been mentioned, and that absence is the whole difference between the two directions in which this problem can be walked. Walked from the product end, the question is which of these should I hold, and nobody can answer that. Walked from the risk end, the question is what would happen to this household if that arrived, and anybody can answer that about their own house in one evening at the kitchen table.

The same reasoning runs everywhere else without being given a name. Nobody stands in a hardware shop asking which of these locks do I need. A buyer looks at the door, works out what is behind it and what one night away from home would mean, and the lock question answers itself in four seconds. Reverse the order, put the locks first, and the same buyer stands there for an hour. A lock described on its own always sounds worth having, and there is no way to tell one description from another.

There is a second reason the risk end is the right end, and it is about who is asking whom. A household that arrives with its own list already written is in a different conversation from a household that arrives with nothing. The first can say what a given risk would cost it and that it could not meet that cost. The second can only ask what might be suggested. Both may end up in the same place. Only one of them will ever know whether they did.

What risks does a household actually face, and how does the list get written?

The list is written by walking around the house rather than by walking around a market. Each thing the household depends on is taken in turn and put to one question: what happens if it stops. The salary that arrives on the last working day. The counter that brings in a second income. The bodies of the three people. The vehicle that gets one of them to work. The things inside the flat. Walking the house that way is the whole method, and it takes an evening.

Here is the Bhosale household's list, written that way. Meghna Bhosale is salaried at Sahyadri Freight Services Private Limited and takes home Rs 39,800/- a month. Ashok Bhosale runs a tailoring counter on the market lane. Ira Bhosale is at school. Rs 42,770/- leaves the house in an ordinary month, and Rs 41,887/- is what the household can reach the same day it needs it.

Four of those six numbers are already on this household's record and two are worked out here. Rs 68,89,067/- is what Meghna Bhosale's earning would have to be replaced with on the household's own inputs. Rs 1,42,000/- was an actual hospital bill in year three. Rs 43,200/- was the takings the counter lost across year two when the lane outside it was dug up. Rs 38,000/- is the household's own estimate of the two-wheeler.

The two worked out here need their assumptions said out loud. Rs 1,99,000/- for a temporary stop is five months of Meghna Bhosale's take-home. Five months is the length the counter income was actually down, and that is the only stretch of disruption this household has lived through. Rs 1,40,000/- for the belongings is the gold. The gold is the one item inside that flat with a number against it. Everything else in the room, the cooking things, the beds, the cupboard and the school books, was never valued by anybody. A risk nobody has priced is not a small risk; it is an unmeasured one.

The register does not state what to do. The register describes where one household stands on one date, in the same way a balance sheet does. Writing the register down produces no action, and that is not its purpose. Until the six rows are on paper nobody in the house can say which of them they are actually exposed to, and a risk nobody has named is met with improvisation on the day.

Why is the list ordered by what each risk would cost rather than by how likely it is?

Now the list exists, and it has to be put in some order. Nobody reads six rows with equal attention and nobody ever has. Two orders are available. One is by likelihoodHow often a risk arrives. A household's own judgement about its own life is not a measured incidence or probability., how often the thing arrives. The other is by severityWhat a risk would cost the household if it did arrive, measured in rupees rather than in how bad it sounds., what it would cost if it did.

Likelihood is the order the mind reaches for on its own, and it takes no effort at all. The frequent risks are the ones a household can picture and has already seen, in that house or on the lane. The rare ones are abstract, and a rare thing that has never happened does not feel like a thing at all, it feels like a story.

Here is the Bhosale household ordered that way, by its own judgement about its own life. No statistic is being used. The lane is a market lane and the counter income has already fallen once, putting that row first. Three people live in the house and there have been two hospital visits in three years, so a health event comes second. The two-wheeler is parked on the street every night, so it comes third. The earning stopping for a while comes fourth and the belongings fifth. Meghna Bhosale's earning stopping permanently has never happened and nobody in that house can picture it, so it comes sixth and last.

Now order the same six by what each would cost. Meghna Bhosale's earning stopping permanently comes first at Rs 68,89,067/-, then the temporary stop at Rs 1,99,000/-, then the health event at Rs 1,42,000/-, then the belongings at Rs 1,40,000/-, then the counter income at Rs 43,200/-, then the two-wheeler at Rs 38,000/-. The row that sat dead last under one ordering sits first under the other, and it did not move because anybody argued about it: it moved because the two orderings are measuring different things and only one of them is measuring what the household would have to survive.

So why cost rather than likelihood? Because the household is not trying to predict its year. It is trying to find the risks it could not survive, and survival is decided by size. A risk that arrives every year and costs Rs 5,000/- has already been survived five times; a risk that arrives once in a lifetime and costs seven times the whole worth of the household has never been survived at all and never would be.

There is a hard-headed reason too. Nobody knows the likelihoods. The Bhosale household's ordering above is honest guesswork by three people about their own life, and it is worth exactly what guesswork is worth. The costs, by contrast, are arithmetic. Rs 42,770/- a month is a figure that household reads off its own record. Cost can be computed and likelihood can only be felt, so ordering by cost wins before anybody argues about which of the two matters more.

Take the two ends of that ordering in plain text. Ordered by how often it arrives, the top three rows are the counter income at Rs 43,200/-, the health event at Rs 1,42,000/- and the two-wheeler at Rs 38,000/-, and the three of them together hold Rs 93,760/- of what nothing is carrying, or 1.9 per cent of the Rs 48,21,827/- total. Ordered by what it would cost, the top three rows are the earning stopping permanently, the earning stopping for a while and the health event, and those three hold Rs 46,38,627/-, or 96.2 per cent. The same six rows, the same six amounts and the same few minutes of reading produce either 1.9 per cent or 96.2 per cent of the household's real exposure, and the only thing that decided which was the order they were written in.

What is the absorb test, and how does one question sort the whole list?

The absorb testOne question asked of every risk: could the household meet this out of what it can actually reach, and still be standing next month. is one question, and it is asked of every row without changing a word of it. Could this household meet that out of what it can actually reach, and still be standing next month?

Three parts of that question are doing work. Out of what it can actually reach rules out everything the household holds that cannot arrive in time. The Bhosale household is worth Rs 2,96,293/- and can reach Rs 41,887/- of it the same day. A provident fund of Rs 84,000/-, gold at Rs 1,40,000/- and a two-wheeler at Rs 38,000/- are all genuinely held and none of them turns into spendable money in the days a hospital desk allows.

And still be standing next month rules out the trick of meeting something once by emptying everything. A household can pay almost any single bill if it stops paying rent, and that is not absorbing a risk, it is postponing it into a month nobody has looked at yet. The test is not whether the money can be found; the test is whether the money can be found and a household still stand afterwards.

The third part is what the question never asks: how often. Frequency is deliberately absent. A risk that arrives every single year and costs Rs 5,000/- passes this test every single year. Such a risk is annoying and fully handled. A risk that would arrive once and cannot be met fails the test even if it never arrives at all, and that asymmetry is the entire reason the two orderings differ.

Which risks on the list have nothing written against them at all?

Look back at the register and count the red markings. Three of the Bhosale household's six rows have nothing standing behind them: the earning stopping for a while, the belongings inside the flat, and Ashok Bhosale's counter income stopping. Three empty rows are what people brace for, and three empty rows are the ordinary result.

Take the counter income first, the one that actually happened. The lane outside the tailoring counter was dug up in year two and the takings fell. Across that year the counter brought in Rs 43,200/- less than it had. Nothing paid any of it. The household met it partly out of what it had and partly on a card. A great many households meet a great many things that way, and the Bhosales came out the other side.

The interesting question is not what the household should have held, but why nothing stood behind that row. A tailoring counter on a market lane is one person's own trade, its takings are what they are, and the amount it lost was not a bill anybody sent. There is no event and no invoice, only a smaller number at the end of a month, so risks that are a fall in what arrives rather than a bill that lands are the hardest to write anything against.

The belongings row is different again, and it is uncovered for a reason worth naming plainly: nobody in the house has ever put a figure on what is in it. The gold has a number because gold has a published price anybody can look up. The cooking things, the beds, the cupboard, the sewing machine at the counter and the school books have no number at all. An uncovered riskA risk the household carries itself, whether because it decided to or because nothing was ever written against it. that has also never been measured never even reaches the argument, and that is what makes it the quietest row on any list.

Which cover to hold against any of the three is a separate question. Whether anything is written against a risk at all, what it would be called, what it would exclude and what it would cost are questions for the policy documents themselves and for the Insurance Regulatory and Development Authority of India. The Authority publishes what an insurer must disclose. Naming a gap and filling it are different jobs, and filling one needs evidence that naming it never required.

What is Income Protection, and what question does it answer that life cover does not?

One row on that list of three is different from the other two. A whole category of cover is written for exactly the state it describes. The row is the earning stopping for a while, and the category is income protectionCover that pays an income while the earner is alive but unable to earn, for as long as the state the policy describes continues..

Income protection answers one question: what does this household live on while the earner is alive and cannot work? Income protection is written against a state rather than against an event. The state is being unable to earn, however the policy defines that, and while the state continues the cover pays at intervals rather than once.

Life coverCover that pays a stated sum if the insured person dies within the period the policy runs for. answers a different question entirely: what does this household live on if the earner has died? Life cover is written against an event, the event happens once, and it pays a sum assuredThe amount a life policy pays out, stated on the schedule, and paid once when the event the policy is written against occurs. paid once to the nominee.

Set those two sentences side by side and the difference is not a matter of degree. Life cover is written against the earner being gone; income protection is written against the earner being here and unable to earn, and no amount of the first has ever paid a rupee towards the second. They sound alike because both are about the earning, and that resemblance is exactly what makes them easy to confuse.

Why are income protection and life cover confused so often?

Because everything on the surface of them matches. Both are bought against the earning. Both are sold by the same institutions. Both are talked about with the same words: cover, sum, claim, premium. And both are usually described to a household on the same afternoon, in the same conversation, by the same person.

Underneath, the two are answering questions that do not overlap at any point. Which of them is more likely to be needed has an uncomfortable answer. A person is far more likely to spend a stretch of their working life unable to work than to die during it. No statistic is behind that conclusion; any household reaches it about itself after thinking about the two states honestly for five minutes.

The Bhosale household holds the first and not the second. Meghna Bhosale's life is covered for Rs 25,00,000/- at Rs 9,600/- a year, and nothing at all stands behind the state where she is at home and unable to work. The Bhosale household has covered the rarer of the two states and left the other one to Rs 41,887/- of same-day money. Life cover is the one everybody has heard of, so a very great many careful households stand in exactly that position.

Why is the earning itself usually the largest risk on any household's list?

Because the earning is not one row among six. The earning pays for the other five.

Follow that through on the Bhosale household. If the two-wheeler is stolen, the earning buys another one eventually. If the counter income falls, the salary carries the month. If somebody is admitted to hospital, the earning pays the Rs 50,560/- the policy did not meet, over a few months if it has to. Every other row on that list has the same quiet assumption sitting under it. Removing the earning does not remove one risk from a list of six. Removing the earning removes the money that was going to absorb the other five.

Now the arithmetic. The household worked it out for itself, and it is not a multiple of anybody's income. The amount to be replaced is what the earning currently pays for, for as long as it would have to pay for it, plus what is owed, less what is already held. Rs 42,770/- a month is Rs 5,13,240/- a year. The household chose fourteen years, the years until Ira Bhosale would be through education. Fourteen is its own answer and nobody else's. Fourteen years of Rs 5,13,240/- is Rs 71,85,360/-. Add the Rs 71,594/- owed. Subtract the Rs 3,67,887/- already held. Rs 68,89,067/-.

Against that sits Rs 25,00,000/- of cover in force. The cover meets 36.3 per cent of what the household says would have to be replaced, and Rs 43,89,067/- of it is not met on the date the sheet was written. How many years to replace, and whether Ashok Bhosale's counter income would continue, are the household's own answers, and either of them changes the figure.

What is the difference between a risk that is uncovered and one that is carried knowingly?

Nothing about the risk. Everything about the household.

A risk carried knowinglyA risk the household has looked at, priced and decided to keep. The risk is unchanged; what changes is that somebody in the house knows it is there. and a risk nobody has ever thought about are identical in every measurable way. Same event, same cost, same absence of anything standing behind it. If the thing arrives, the same amount of money leaves. The word knowingly hides no cleverness and buys no protection.

The difference shows up in the house on the day. A household that has looked at a row, priced it, and decided to keep that one has already had the conversation. Somebody in that house knows roughly how large the number is, and has some idea where the money would come from and, more usefully, where it would not. A household meeting an unnamed risk for the first time is doing three things at once under pressure: working out what has happened, working out what it costs, and deciding how to pay for it, and the third decision is the expensive one.

The Bhosale household's belongings row is the honest illustration of both states at once. Nothing stands behind it, and now that it has been written down and given a figure, it has moved from the second state into the first. Not one rupee changed hands and nothing was bought. The only thing the exercise produced on that row was that somebody in the house now knows the row exists, and that is a real output even though it looks like nothing.

Who else runs this list, and what do they do with it?

The household is not the only party who ever runs an absorb test on it, and seeing who else does makes the exercise less abstract.

A lender assessing a loan application is running exactly this test, from the other side of the table and for its own reasons. The lender asks what happens to the repayments if the earning stops, and reaches its answer using the household's income, what is already owed and what is held. The lender calls the exercise something else and asks about its own money rather than the household's, but the question underneath is the same one. A household that has already worked out its own answer is not surprised by the lender's.

An employer sometimes stands on part of a list too, through cover arranged for a group of employees, and that is worth knowing about for one specific reason. Cover arranged through an employer usually stands only while the employment does, so the row it covers is uncovered again on the day the job changes. A risk that is met by something attached to the job is met conditionally, and the condition is the same earning the list is worried about in the first place.

And then there is the conversation a household has when it does go looking. The order in which covers get described to anybody is decided by considerations that are not this household's ordering and were never meant to be. A household that arrives holding its own list, with its own figures and its own order, is not being difficult; it is simply able to tell whether the answer it is given addresses the row it came in about.

How does a finished list turn into a position rather than a shopping list?

Look at what the Bhosale household actually has at the end. The result is not what people expect the exercise to produce.

The household has six rows with a rupee figure against each. Three of those rows have something standing behind them and three have nothing. One row, the largest by a distance, has cover in force meeting 36.3 per cent of what the household says would have to be replaced. A note records that the state of being alive and unable to earn has nothing behind it at all. The household has bought nothing, cancelled nothing and changed nothing.

All of that is a position. A position states where one household stands on one date, in the same way a balance sheet states what a firm holds and owes. A position can be looked at again in a year, compared with the last one, and handed to somebody else without a word of explanation, and none of those things is true of a decision reached quickly on one afternoon.

One thing has to be said plainly, or the exercise reads like a diagnosis. Three of six rows staying with the household is not the failed version of this exercise. Three of six is the ordinary version. Most of what can go wrong in a life is not the kind of thing anybody writes cover against, so most risks on most households' lists have nothing written against them and never will. A list where every row was transferred would not be a well-protected household; it would be a household spending its whole month on premiums for things it could have absorbed.

The Bhosale household, Meghna Bhosale, Ashok Bhosale, Ira Bhosale and Sahyadri Freight Services Private Limited are invented.
Educational material. Not advice on any investment, tax, budget or market position.