The Insurance Regulatory and Development Authority has put on its web-site an exposure draft giving policy persistency rates of life insurance companies in the private sector and the steps proposed to be taken to improve them. Policy persistency can be defined as continuation of premium payments without break.
Policies marketed by life insurance companies can be broadly divided into two classes — participating (Par) and non-participating (Non-Par) . Par policies, like equities, participate in the company's profit. Non-Par policies do not.
The sum assured under both classes and bonuses already declared under Par policies are guaranteed. Till September 2002, shareholders were eligible for 7.5 per cent of the total profit and the balance was being distributed among Par policyholders.
Through an amendment to the Insurance Act, the IRDA changed this as “shareholders are eligible for 10 per cent of the profit under Par and 100 per cent of the profit under Non-Par policies.''
(In the case of LIC, 95 per cent of the profit from both classes of policies still goes to Par policyholders and only 5 per cent to shareholders.)
Because of this right to profit, premium rates under Par policies are higher. The difference in premium rates between a Par policy and the corresponding Non-Par policy is known as bonus loading.
Naturally, private life insurance companies would like to market only Non-Par policies. But, there is a catch. Guaranteeing sum assured and bonuses already declared involves high investment risk, to be borne fully by shareholders. The bonus loading acts as a buffer in the case of Par policies.
By reducing bonuses to be declared in future, a company can remain financially stable even if investment conditions turn adverse.
For companies marketing a high proportion of Non-Par policies, the buffer available will be inadequate to withstand adverse conditions.
Insurers favour ULIPs
Since the amount payable on maturity is not guaranteed under unit-linked insurance policies (ULIPs), the investment risk gets passed on fully to policyholders. The entire profit however goes to shareholders. No credible attempt was ever made by the regulator to create awareness among policyholders about this virtual absence of guarantee and bring into focus the major difference between the traditional and unit linked policies and their implications. There is another important difference. Initial expenses relating to marketing and underwriting of life insurance policies are quite high. Under traditional plans of insurance, the high initial expenses are spread uniformly over the entire policy term. If a policy lapses in early durations, the insurer may not be able to recover fully the initial expenses.
Under the ULIP, through a heavy entry load, the high initial expenses get recovered in the first year itself. The insurer does not therefore lose by early duration lapses and so has not much compulsion to improve policy persistency.
The combination of risk free business, right to entire profit, lower solvency requirements, facility to impose heavy entry loads and, above all, lack of consumer awareness, resulted in ULIP accounting for more than 90 per cent of the business done by private insurers. (The IRDA is now taking steps to curb the high entry load.)
For more than four decades, life insurance was considered a vehicle for long-term, fully secured investments. But in the last eight years, it has been transformed into an unguaranteed, short-term investment instrument, with an appeal based on speculative gains and deploying a capital of Rs.20,000 crore. No mean achievement though not one to be proud of. This is the main factor behind the fall in persistency rates — persistency is the first casualty when speculation replaces security. The agency channel had little role in the evolution of this scenario.
As per the chart given by the IRDA, corporate agent and broker channels have lower persistency than tied agents. Bankassurance has marginally better persistency but, barring a few insurers, this channel brings in much smaller business than tied agents.
The agency channel thus comes out as the best among the four channels of distribution. But, ironically, it receives the lowest remuneration.
Agency channel at peril
Till recently, only traditional policies were being marketed and there was only one channel of distribution, namely, agency. The policy persistency was always at a reasonable level and also increasing steadily. The problem of low persistency is a recent phenomenon. The agency channel cannot be faulted for this as the problem was non-existent as long as it was the only channel of distribution.
Very few take up insurance agency on full time basis as it calls for very hard work, patience and a number of years to stabilise in this profession. The entire credit for spreading life insurance in this country goes to this unappreciated and unrecognised group. People will be the losers if this channel is stifled by imposition of unimaginative and draconian conditions.
Let us hope that the regulation, in its final form, will be based on logic and reason and not on hearsay and unsubstantiated presumptions.
Actuary
