Life Insurance (2)
Life insurance products can broadly be categorised as being:
1. Protection oriented policies: These products are primarily designed to cover the life of the insured and provide for a lump-sum benefit in case the life insured dies. Such products are generally referred to as ‘Term’ plans. Some key characteristics of ‘Term’ plans can be summarised as:
• Lump-sum benefit paid to designated beneficiaries only in the event of the policyholder’s death
• The lump-sum to be paid on policyholder’s death is significantly higher than what would be payable under a savings oriented plan for the same amount of premium BUT No survival benefits are available i.e. no payments are made by the insurer if the policyholder is alive when the policy completes its term
• If the policyholder stops paying the premiums when due at any time during the term of the policy, the policy ceases to have any value
2. Investment / Savings oriented policies: These products, while providing for life insurance, primarily facilitate the growth of capital on premiums paid by the policy owner. Some key characteristics of these plans can be summarised as:
• These products are primarily savings plans with attached life insurance
• Part of the premiums paid by the policyholder are treated as savings while the remaining amount is used to buy life insurance
• The policy will pay a lump-sum in case the policyholder dies during the term of the policy or will pay out the amounts saved if the policyholder is alive when the policy expires
• The lump-sum to be paid on death of the policyholder is significantly less than what would be available under a ‘Term’ plan for the same amount of premium. This is because a large part of the premium is being treated as savings and only a portion being utilised to buy life insurance
Investments / Savings oriented products can further be classified as being
o Unit Linked Insurance Plans
o Traditional Plans
Endowment plans are life insurance plans that provide protection as well as some returns on the premiums paid by the policy holder. The endowment plan provides for payment of the sum assured on the death of the life insured, to the policy’s nominees or the next of kin of the insured. The premium is paid for the defined Sum Assured and term of the policy.
Part of the premium paid is adjusted towards the risk premium or mortality charge for the sum assured; and an amount adjusted for the insurers expenses. The Insurer will invest part of the premium for the policyholder. Investments by traditional plans are governed by the Investment Allocation guidelines of the Insurance Act, which mandates that most of the investment allocation is towards bonds and fixed income. Exposure to equities is limited to a maximum of 35 percent of the funds under management.
Variant to an endowment plan is a money back plan.
There are two types of endowment plans – with profit and without profit.
With Profit plans entitle the policyholder to share in the profits earned by the Insurer. Under Indian insurance regulations the with profit plans are entitled to 90 percent of the profits earned by the Insurer in it’s with profit pool.
There are two variants of with profit policies:
Reversionary Bonus Policies: The insurer will usually announce a bonus rate for the policy at the end of each year. This bonus rate is typically slightly lower than the actual return earned by the Insurer in an effort to smoothen the annual bonus payout during the term of the policy and mitigate any risk from a market downturn. Once declared, it is highly unusual for an Insurer to reduce the bonus declared – although this is possible and provided for in the event of extreme market movement.
Additionally, insurers can at their discretion announce a loyalty addition or a terminal bonus on the policies.
On maturity of the policy (if the life insured survives the policy term) the value of the policy will be paid to the policyholder. The value of the endowment policy is the premiums paid plus cumulative bonus paid by the insurer.
In the event of death of the life insured, the insurer will pay out the sum assured together with accumulated bonuses till date. Since the payout or returns are not guaranteed, these policies are cheaper than guaranteed addition policies.
Guaranteed Additions Policies: These are assured return policies where the insurer will declare at the outset the guaranteed additions to the policies, which is declared as a percentage of sum assured or a fixed amount per Rs 1,000 sum assured. The guaranteed additions will accumulate over the policy term and will be paid out at the time of maturity.
In the event of death of the life insured, the sum assured plus the guaranteed additions accumulated till date will be paid out to the nominees or next of kin.
Guaranteed additions policies are not popular with insurers these days to the higher risk associated with payment of guaranteed additions with investment under performance.
Without profit plans are endowments where the policyholder is not entitled to a share of the insurer’s profits. Therefore, these plans are available for a lower premium compared to with profit plans.
On maturity, the policyholder will receive the sum assured and accumulated loyalty additions as a return on investment. The loyalty addition is a percentage of sum assured paid to the policyholder for continuing with the plan through the term of the policy.