Early insurance exit still costly, pension plans take after NPS

Though nothing may have changed to substantially improve the returns from traditional insurance-cum-investment policies—you know them as endowment and money-back plans—you may get a slightly better exit route in case you wish to surrender your policy early. 

The exposure draft that was put out by the Insurance Regulatory and Development Authority of India (Irdai) last week proposes that all traditional plans will now acquire a surrender value after you pay two premium instalments. So if you surrender after the second premium, you will get some money back. Surrender before that and you go empty-handed, as rules allow insurers to levy a 100% surrender charge.

Currently, if you buy a policy with a term of over 10 years, you are eligible for a surrender value only after three years. This is down to two years. Also, the quantum of how much the insurer has to return has increased slightly from 30% to 35% of the premium paid. In addition, the guaranteed surrender value will comprise surrender value of any bonus—which is now defined as at least 30% of it—accrued to the policy.  

Unlike the current product regulations that allow insurers to file surrender values after the seventh policy year, the draft exposure states that surrender value should follow a smooth progression and converge to at least 90% of the premiums as the policy approaches maturity. In other words, even when you are close to maturity, you may not get the entire money back. “From a customer standpoint the good aspects are that minimum surrender values have increased slightly in the early years and are clearly defined in outer years,” said Kapil Mehta, co-founder, SecureNow Insurance Broker Pvt. Ltd. 

But surrender costs continue to remain high despite the fact that serious concerns were expressed by the product review committee. “About 61% of the policies don’t stay till the end of 5 years, and with nearly 80% of the industry’s product mix sold in the traditional product category, this (heavy surrender charge) has put the industry’s reputation at risk, affecting the viability of the business,” the committee report said. 

Traditional plans remain products with high cost of surrender.

There is good news for pension products. The draft proposes to increase the commutation money—the amount you can withdraw at maturity as lump sum—from one-third or 33.33% of the maturity corpus to 60%. Currently, up to 33.33% of the corpus can be withdrawn and the remaining two-thirds or 66.66% needs to be mandatorily used to buy an annuity product. 

Now imagine a situation where other fixed-income products look more appealing than annuity, but your money in stuck in the latter. The proposal, therefore, gives more flexibility. 

This is also in line with the National Pension System (NPS) that allows you to commute up to 60% of the corpus. “Of course as of now only 33.33% will continue to be tax free as per tax rules, but it gives more flexibility to customers to make use of their corpus,” said R.M. Vishakha, managing director and CEO, IndiaFirst Life Insurance Co. Ltd. 

Taking another cue from the NPS, the draft proposes partial withdrawals for linked pension plans. As per the draft, a policyholder can make partial withdrawals after the lock-in period of 5 years and can subsequently make three partial withdrawals during the policy term. The withdrawals can’t exceed 25% of the fund value and can happen only for specific purposes like child’s education, treatment of critical illness and purchase of a house. 

Further, the draft proposes flexibility in terms of shopping for an annuity product with other insurance companies instead of getting tied to the insurer you bought your pension plan from. 

The draft proposes to decrease the minimum mandated level of insurance cover from 10 times the annual premium to 7 times the annual premium for regular premium policies. This is a step down in the level of protection that insurance plans can offer, but some experts believe this will help in improving returns. However, if you want to enjoy tax benefits you will have to take a policy with a sum assured of 10 times the annual premium.

The draft also proposes differentiated prices for the insurance component in linked products based on health score which is a positive, said Manik Nangia, director marketing and chief digital officer, Max Life Insurance Co. Ltd. “The exposure draft proposes differentiated prices on linked products based on wearable data. We believe this is very progressive and should be extended to non-linked as well. What this means is that if a person is willing to share data of his wearable devices and we find the person healthy, then we will be able to engage them better and also offer discounts on life insurance plans. In time, this will change the fact of life insurance from being a product which you purchased once into a service which you engage with regularly,” he added. 

The draft, which is open for public comments till 15 November, doesn’t effectively address the main concern of high surrender penalties and the damage it does to your money, but there are some small wins that can be celebrated.

The big takeaways from the draft proposals

R.M.Vishakha, MD and CEO, IndiaFirst Life Insurance

It’s important because when markets are volatile, customers may want to stay invested even after maturity. Since insurers can only levy fund management charge during the settlement period, it’s a cost efficient and flexible option. What further adds to the flexibility is the proposed option to switch between funds even during the settlement period.

Vignesh Shahane, Whole-time director, IDBI Federal Life Insurance

Savings plans are not the right products to address the protection gap and the draft takes note of it by reducing the minimum sum assured requirement from 10 times to 7 times the annual premium. Savings products should focus on maximising saving. Hopefully, tax rules will change too. The other takeaway is that customers could have the option to recalibrate their premium and PPT (premium paying term) to align to their needs and hence keep the policy alive. This will boost persistency.

Tarun Chugh, MD and CEO, Bajaj Allianz Life Insurance

The draft strikes a balance by increasing the surrender value but ensuring that the surrender costs are not lowered to levels where it puts pressure on capital and penalise existing policyholders through suppressed returns. If the draft comes into effect, I think insurers will get into variable insurance products, as they follow the transparent cost structure of Ulips and investment pattern of traditional plans. The draft allows insurers to declare the rate of interest at the end of the year which is a huge plus.

Kapil Mehta, Co-founder, SecureNow Insurance Broker

From a customer standpoint, the good aspects are that minimum surrender values have increased slightly in the early years and are clearly defined in outer years. Also, surrender values will accrue after two years itself. The proposal that maturity value can’t be less than premiums paid is important because certain policies, especially taken by older people, returned a maturity value lower than premiums paid. to manage the increased benefits, there may be some policy re-pricing or reduced commissions.