Mumbai: Fresh from its victory in the regulatory turf war over unit-linked insurance policies (Ulips), the Insurance Regulatory and Development Authority (Irda) is set to overhaul the norms governing these popular financial products.

Ulips are hybrids that combine elements of mutual funds and insurance, and have drawn regulatory attention because of fears that they have been pushed down the throats of investors by selling agents who earn fat commissions from insurance companies.

Two Irda officials told Mint on Monday the regulator will soon declare stringent norms on front-loading of commissions, surrender charges, risk cover, top-up benefits, and fixed gains or sum assured for Ulips.

The Economic Times had reported on Monday that the regulator will introduce new rules to make these products attractive to investors.

The most significant reform will be a cut in the commissions that insurance companies pay agents selling Ulips—from the current 57.5% over five years to 30-32%.

In January, Irda asked insurers to manage expenses in such a way that the difference between the amount paid to policyholders and the fund value should not be more than 3 percentage points for Ulips up to 10 years.

For policies above 10 years, it was capped at 2.25 percentage points. The move, however, could not prevent insurers from paying hefty commissions to the agents upfront.

“The insurers were playing a trick with the policyholders by offering the benefit of Ulip charge limits only at the maturity of the product. We will now order the insurers to maintain a difference of at least 3.3 percentage points between gross yield and net yield on Ulip investments through out the duration of the policy and not only at the maturity," said one of the Irda officials on condition of anonymity.

“Our proposal should bring down the first-year agent commission from 35% to 10-15%," added the official. For pension plans, the first-year commission, will come down from 7.5% to about 5.5%.

Cut in surrender charges

Surrender charges, too, will be reduced to curb mis-selling.

Currently, policyholders hardly get any money if they withdraw their policy prematurely.

On the other hand, the insurers, too, stand to lose if the surrender charges are drastically reduced as insurers spend on customer acquisition and product development.

Irda wants to strike a balance by capping surrender charges as a percentage of annual premium to benefit the policyholders and allow insurers to charge 15-20% of the premium as so-called amortization cost when a policy is surrendered.

Amortization is an accounting practice of spreading the cost of selling and managing a policy over its lifespan. Till now, there is no limit on amortization in case of a surrender. The combination of hefty surrender charge and amortization cost leaves virtually nothing for the policyholder in case of premature withdrawal.

In May, the regulator had proposed to cap first-year surrender charges at 12.5% for Ulips with a term of less than 10 years and 15% for those above 10 years.

The charges were proposed to be capped at 10% and 12.5%, respectively, of the fund value for surrenders in the second year, while the seventh year onwards there would be no surrender cost.

The insurers were pushing for a hike in these limits, but the regulator now plans to tighten it further. It will order insurers to deduct 10-15% of the annual premium only as the surrender charge and return the entire remaining fund value to the policyholder even in case of premature withdrawals.

Compulsory cover

In yet another significant proposal that will not only make Ulips attractive, but also distinguish them from mutual funds, Irda intends to increase the life insurance component in Ulips substantially and make it mandatory.

Currently, there are a number of Ulip schemes where either there is no insurance cover or the maximum insurance cover is only five times the premium paid. The regulator plans to make the insurance cover mandatory.

According to the plan, the life insurance component has to be at least 10 times the premium paid for policies up to 10 years and at least 1.05 times the annual premium for policies of 20 years and above.

For policies between 10 and 20 years, there will be yet another option—insurance cover of 0.5 times the policy term, multiplied by the annual premium. If the insurers are not comfortable with either of this, they will be required to provide a health cover of at least Rs1 lakh for each year of Ulip.

“The Ulip as we know will no longer exist. All stakeholders such as insurers, agents and policyholders need to wake up and adjust themselves to this new reality. Till now, the focus has been on investments and returns. Now, we could see a shift towards life cover and protection," said an insurance consultant who did not want to be identified as he is closely associated with Irda.

Pension plans

In yet another significant move, Irda is set to pass an order for insurers to have a guaranteed yield of at least 4.5% on the total premium paid for every equity-linked pension plan in the industry.

At present, linked pension plans do not come with guaranteed sum assured. “The plan is to offer investors something more than 3.5% that is offered by savings bank deposits. To start with, we will ask insurers to offer a guaranteed return of at least 4.5%," added the official.