New Delhi: India’s fledgling life insurers, unable to go public and hamstrung by limits on stake sales, could be starved of capital unless rules are changed to make it easier for them to raise funding.

Funding issues: Jeevan Bharti, a Life Insurance Corp. building in New Delhi. The number of life insurers has risen to 22 since the market was opened in 2000 to challenge the state-owned corporation’s monopoly. Rajkumar/Mint

Insurance firms are also not permitted to raise debt, which means controlling shareholders, known in India as promoters, must foot the bill in order to fund further growth, which requires building costly distribution networks.

Hopes that the limit on foreign stakes would be raised to 49% were dashed last year when Parliament failed to vote on a measure. It is not clear when it might be reintroduced.

Regulators, meanwhile, are drafting guidelines for initial public offerings, or IPOs, and are considering an application made in July by the Reliance Capital Ltd insurance unit to float an IPO before the normal 10-year qualification period.

“A 10-year period is quite a long duration for any promoter to feed the company," said Jayant Khosla, chief executive of Future Generali India Life Insurance Co. Ltd, 26% of which is owned by Italy’s Assicurazioni Generali SpA.

“Not all Indian partners are in a position to meet the capital demands of fast growing life companies and this could hamper the growth of these companies," he said.

Life insurance firms rode a surge in the equity markets until 2007 as household savings were increasingly diverted into unit-linked products (Ulips), swelling insurers’ new business premiums.

Ulips provide life cover and invest part of the premium in stocks and bonds.

In most cases, the sum assured in the policy varies according to the value of its underlying assets.

Premiums took a hit, however, when the main index slumped by more than half in 2008.

Insurers, which undertook aggressive and costly branch expansions and product rollouts in order to capture a share of the growth, saw their costs surge.

Operating expenses of private life insurers jumped 85% to at least Rs12,000 crore in 2007-08 from a year earlier, regulatory data showed, and the industry watchdog warned that aggressive expansion would be difficult to sustain.

Solvency margin requirements, meanwhile, add to the capital need for Indian insurers.

Shashwat Sharma, advisory director at consulting firm KPMG, estimates that Indian life underwriters will need to invest Rs40,000 crore over the next seven years to fund their growth.

Insurance requires a broad distribution network in order to win customers, which needs heavy investment.

“You try to have a large model of distribution. It is very expensive to distribute insurance," Sharma said.

Life insurance penetration in India has grown to around 4% of GDP in terms of total premiums underwritten in a year, compared with 1.77% in 2000, and 2.4% in China. The rate in developed economies is around 6-9%, according to a local industry body, the Life Insurance Council of India.

With per capita incomes growing at 14.4% a year and an annual domestic savings rate of 37.7%, the country is seen as a huge growth opportunity, and foreign players have crowded into the market by taking minority stakes in local firms.

Consulting firm McKinsey and Co. forecasts the penetration rate in India to rise to over 5% of GDP in 2012, with premiums expected to swell to $80-100 billion (Rs4-5 trillion) from $43 billion now.

So far, 19 foreign firms have entered India through joint ventures with local firms,and liberalized rules were likely to drive even more participation.

Last year, four new companies—HSBC Holdings Plc., Aegon NV, Prudential Financial Inc. and Dai-ichi Mutual Life Insurance Co.—entered India.

Some firms such as Germany’s Allianz SE, South Africa’s Sanlam Ltd and New York Life Insurance Co. have agreements with their Indian partners to lift stakes to 49% when rules allow.

A relaxation in IPO rules would also make the sector more attractive to participants by providing a route both for raising funds and for exiting investments.

The insurance venture of Housing Development Finance Corp. Ltd and UK-based Standard Life Plc., which completes 10 years in 2010, has said it is eyeing a listing in 2010-11, and others are expected to follow as they pass the 10-year mark.

India’s insurance regulator said last month it has started discussions with capital market regulator Securities and Exchange Board of India to frame IPO guidelines.

Setting rules on stake sales would be likely to trigger a flurry of deal making.

“There would be a huge rush," said Clyton Fernandes, a banking and financial services analyst with Mumbai-based Anand Rathi Securities Ltd. “Definitely there would be a large increase in the number of IPOs, FPOs (follow-on public offerings)."