Higher surrender value to badly hit life insurers margins: Report

The recent regulatory push to increase the surrender value of a life policy through the revised concept of threshold limit and adjusted guaranteed surrender value for all non-linked policies, if implemented, will hit the margins of the insurers, warns a report.

The Insurance Regulatory and Development Authority (Irdai) earlier this month put out a draft circular proposing an increase in the surrender value of a life policy by revising upwards threshold limits and the adjusted guaranteed surrender value for all non-linked policies, both par and non-par.

Surrender value is the amount that an insurer pays to a policyholder in case he or she terminates the policy before maturity.

The move if implemented as the current format will affect the overall margins of life insurance companies, India Ratings said in a note on Thursday without quantifying by how much given the complex calculations being proposed.

But the agency also believes that defining the thresholds for surrender value will be the key for insurers to define their product margins as a higher threshold will lower the adjusted guaranteed surrender value and vice versa.

The new surrender value according to the revised defined formula will be significantly higher than the existing payback on surrenders, even as the threshold limit proposed for surrender charges remains at the discretion of the insurer. Nevertheless, the draft seeks to make it mandatory for the insurer to pay back to the policyholder any balance premium beyond such limits, irrespective of the timing of the policy surrender.

In fact this is in continuation to the earlier guideline that defined Ulips' (unit-linked insurance plans) surrender or payout on policy lapse, thus improving the product acceptability.

According to the draft, the premium threshold will define the surrender charge, beyond which the premium will have no surrender charges levied.

Policies shall acquire a guaranteed surrender value on the payment of premium for at least two consecutive years and shall be minimum 30 per cent of the total premium paid less survival benefits already paid, and will vary based on term of surrender. This value will be added to the premium paid less the threshold limit (surrender charge) multiplied by the year of surrender.

The guaranteed surrender value will vary for single premium and regular paying products. The daft also has introduced the concept of special surrender value, largely in case of participating policies where bonus gets accumulated over the life of the policies.

The special surrender value for non-par saving policies shall reflect the notional asset share, guaranteed maturity or survival benefit.

According to the agency, insurers with higher share of non-linked saving policies will be impacted more than the ones having a higher share of term life protection and linked policies.

National insurer LIC stands to benefit and this was clear from the stock rally in the LIC counter since the proposal was floated. Similarly, SBI Life will also benefit. A day after the proposal came in all the life insurers' stocks were hammered, barring LIC and SBI Life.

The revision may also lead to recalibration of operating expenses at insurers to manage product margins, thereby overall profitability, it said.

According to the policy, these products are highly profitable and focus areas for all insures due to the higher margins involved, where surrender or lapses can have driven a certain portion of margin benefits. Thus, insurers will need to recalibrate their products to drive persistency as well as reduce commissions or increase premium in these products.

The move can also impact persistency of insurers, as a higher surrender value can reduce the policyholder stickiness to the existing insurer and increase portability of insurers, the agency said.

As per the calculation defined by the regulator, payout can be significantly higher than in the previous methodology, acting as a drag on the overall margins. Any tweaking in the first year payout can also affect bancassurance partners' fee income.