Insurance regulator IRDAI may consider rationalising the proposal to increase the surrender charges of a policy after discussions with life insurance companies.

In December 2023, the IRDAI came out with an exposure draft on more encompassing product regulations and sought to repeal certain extant regulations based on recommendations of the regulation review committee.

Among the changes proposed in the exposure draft were the modifications to the surrender value of life insurance policies. Surrender value is the amount payable on withdrawal or termination of a policy during the term.

The regulator has proposed the creation of a premium threshold defined for each product and said in the exposure draft that there should not be any surrender charges imposed on the balance of premium beyond the threshold limits, irrespective of the time of surrender. However, there needed to be more clarity within the draft on what would be the threshold limits.

The exposure draft further proposed that in the case of individual non-linked savings and protection-oriented life insurance policies, there would be a slab-based guaranteed surrender value.
Adjusted for survival benefits this would be 30, 35, 50 and 90 per cent of the total premium paid if the policy is surrendered during the second, third, fourth, seventh and the last two years of the policy.

“The surrender value beyond the seventh year shall follow a smooth progression and converge to at least 90 per cent of total premium paid less any survival benefits already paid, as the policy approaches maturity,” the exposure draft said.

The implication of the proposed changes is a sharp increase in the amount that life insurers would have to shell out on the surrender of a policy leading to a direct hit on the margins. The regulator’s logic behind the change is that policyholders should be able to avail a fair and reasonable amount towards the end of the term which is closer to the expected maturity value.

However, industry sources said the life insurers have made certain points with the regulator.

In 2022-23, around 40 per cent of the total benefits paid by life insurers to policyholders were on account of surrender/withdrawal of policies. A higher surrender value would only encourage more surrender rather than positioning life insurance as a long-term savings and protection product.

Sources said that some of the proposals placed with the regulator include lowering threshold limits for the calculation of surrender values, a five-year milestone beyond which policies could be considered long-term and different product constructs based on policyholder preference for liquidity against protection and return.

“If we look at long-term products such as PPF (public provident fund) with a 15-year tenure, withdrawal and premature closure are only allowed after five years. Long-term products including life insurance have different objectives rather than providing liquidity. So the life insurers are engaging with the regulator to understand and have more clarity,” an industry source said.

The IRDAI may consider approving the final regulations around surrender value in its board meeting in March.