Mumbai: The insurance regulator has drafted new regulations on expenses of management for life and non-life companies. This circular was sent as an internal communication on 21 July to the insurance companies for their views. Expenses of management include all operational and administrative expenses including commissions given to the insurance agents.

For life insurers the caps are described according to the product categories and the number of years the company has been in business. So for regular premium policies an insurer in the first four years of business can spend up to 100% of the first year’s premium in expenses and 20% of renewal premiums.

This limit comes down as the insurer grows older so for an insurer who has been in the business for 8 or 10 years, the limit on expenses in the first year is capped at 93% of the first year premium and 19% of the renewal premium.

For insurers over 10 years old the limits are decided according to the premium payment terms of the insurance policies they sell. So policies with shorter premium payment terms will have a lower limit of 80% of the first year and 15% of the renewal premium whereas long-term policies with a premium payment term of over 11 years will have a limit up to 90% of the first year and 15% of the renewal premium. For regular pension policy the limit is 10% of the first year’s premiums and 4% of all renewal premiums.

This is the second circular from the Insurance Regulatory and Development Authority of India, or Irdai. The first was a discussion paper in October that sought to control the expenses overrun of the life insurance companies. In the paper, the insurance regulator said that it aimed to curtail management expenses of insurers within the limits prescribed by law and that it needed to be done to ensure that returns to policyholders are not compressed on account of high expenses.

Currently the expenses for the life insurance companies are described under section 17D of the Insurance Rules, 1939 whereas section 40B of the Insurance Act, 1938, restricts the expenses of insurance companies according to the rules specified in 17D.

These limits depend upon the age of the insurance company, its business in force calculated in sum assured and the term of the products sold. For instance, for insurers that have completed 10 years of operations with business in force of at least 10 crore, for a regular life insurance policy with a premium paying term of more than 12 years, the insurer can deduct up to 90% of premium in expenses in the first year and up to 15% of the renewal premium. For younger companies the limit is higher. But insurers are found to overstep these limits often. “Since opening of the insurance sector, insurers are witnessing huge expense outgo on an ongoing basis. This is resulting into exceeding the limits prescribed in the Rule 17D, year on year, for many insurers," stated the discussion paper.

But now with a majority of insurers over ten years old Irdai plans to institute strict discipline in adhering to the rules on expenses. To this effect the draft states that Irdai may also direct the insurer to not underwrite new business in case of persistent violation of the regulations. However in the case of newly registered insurer, if Irdai receives a representation through the life Insurance council, it may exercise forbearance for a period not more than five years.

The draft also prohibits upfront payments in respect of current and future business volumes to insurance intermediaries and clearly specifies that no payment to insurance intermediaries can be made in advance before the risk start date of any policy. Also in the compliance certificate from Irdai the insurer will need to ensure that the allocation of expense to participating insurance plans is not higher than that of non-participating plans.

Participating products are those in which, over and above the guaranteed benefit (usually the sum assured), the customer also gets an additional benefit in the form of bonuses. Typically, these bonuses are a percentage of the sum assured and are declared at the end of every year. Once declared, these become guaranteed.

The bonuses come from the surplus generated by the participating fund. The insurer is free to exercise its discretion while declaring the surplus. However, once declared, the policyholder is entitled to get 90% of the surplus, whereas the shareholders can get up to 10% of the surplus. In the case of non-participating products or without-profits, the benefits are clearly defined right at the time of buying the policy. The insurer can’t alter these in any way.

Since the returns are guaranteed upfront, the scope to load non-participating products is limited. In the case of participating products, there is a cushion for the insurer to pad up costs that may originate even from other products. The draft aims to stop that and also aims to bring parity in expenses of all insurance policies. This is going to be an important step in controlling costs.

However some in the industry feel that instead of instituting limits on the overall caps on expenses of management, Irdai should focus on limiting the expenses that insurer can deduct from the policyholder.

“In the case of Ulips (unit linked insurance plans) the regulations have described the maximum that insurers can charge the customer by way of maximum reduction in yield allowed. In the case of term plans and other non-participating funds that guarantee a return, market competition through premium rates will keep the expenses under control," said K.S. Gopalakrishnan, managing director and chief executive officer, AEGON Religare Life Insurance Co Ltd. “Therefore we should focus on participating funds and have a limit that can be charged from the customers. Anything over that can be paid for by the shareholder. UK’s Principles and Practise of Financial Management already follows this model and prescribes the maximum that an insurer can charge the customer from the traditional life fund," he added.

Insurers are expected to send in their comments by 30 July.

Close