Good news for life insurance policyholders! Starting today (October 1, 2024) new surrender value norms are coming into effect. As directed by the Insurance Regulatory and Development Authority of India (Irdai), this regulatory change will impact the life insurance policyholders, offering them a guaranteed surrender value if they choose to exit their policy prematurely.
Says Pankaj Gupta, MD, and CEO, Pramerica Life Insurance, “The new surrender value norms foster a customer-friendly environment and enhance the attractiveness of life insurance in the context of other financial products that are also available to the customer.”
He adds, “The new norms will benefit policyholders by offering them more flexibility and liquidity ensuring that those who may face unexpected financial challenges or choose to exit early will have an option to do so with minimal impact.”
While this new norm is seen as a policyholder-friendly initiative, it is important to understand how this would affect insurance premiums, the value of policies, and the overall financial planning of the individuals. But first, let’s understand;
What Is A Surrender Value?
Surrender value refers to the amount the insurer pays the policyholder when they decide to fully withdraw or terminate the policy before the term (maturity) ends. If the policyholder decides on a mid-tenure surrender, then the sum distributed towards earnings and savings would be given to the policyholder.
The insurer pays you a surrender value which is higher of the two types:
1. Guaranteed Surender Value (GSV): This is a predetermined percentage of the total premiums paid.
2. Special Surrender Value (SSV): This is calculated based on several factors like the remaining policy term, paid value, and future benefits.
As per the previous rules, the policyholders had to pay premiums for at least two years before they were entitled to any surrender value. If you had surrendered your policy before this period, you would have received nothing. However, the new rules change this.
What Are The New Surrender Value Norms?
1. Early Surrender Now An Option: Policyholders are now eligible to receive a surrender value after completing just one policy year, provided that one full year of premium has been paid.
2. Higher Special Surrender Value: As per the new regulations, the SSV must be calculated to ensure it is at least equal to the present value of the paid-up sum insured and accrued benefits. This calculation includes factors such as future benefits, accrued bonuses and any survival benefits already paid. Moreover, the interest rate used in this calculation cannot be over the prevailing yield on 10-year government securities (G-sec) plus 50 basis points.
How is SSV Calculated?
Typically, special surrender value is determined with this formula: (Accured bonuses + Paid-up value) multiplied by the surrender value factor (SVF). The SVF is a percentage of paid-up value plus bonus and is decided by the insurer based on regulations.
The paid-up value which plays a role in determining your SSV depends on how much of the total premium you have already paid. The formula to calculate this is:
Paid-up value = (Number of years for which premium has been paid)/(Total policy term) * (Total Sum Assured)
For example: If you have a 10-year policy with a sum assured of Rs 2 Lakh and have paid premiums for two years, your paid-up value would be 20 per cent of the sum assured.
The new regulations are expected to increase the overall surrender value for customers wishing to surrender in the first year or early years of the policy.
Earlier, surrendering after the second or third year typically gave policyholders a refund of only 30-35 per cent of the total premium, excluding bonuses. This proportion would then increase with the policy term, possibly reaching 50 per cent of surrendered between the fourth and seventh year and around 90 per cent in the last two years of the policy term.
Let’s understand how new regulation would affect your surrender value with an example:
Suppose you have a 10-year endowment insurance policy with a sum assured of Rs 2.5 Lakh and an annual premium of Rs 20,000. If you surrender the policy after the second year, the calculation under the new rules might work as follows:
After paying the premium for two years, the paid-up value will be: (2/10) * Rs 2.5 Lakh = Rs 50,000
If bonuses accrued up to this point are Rs 30,000, the present value of the paid-up sum assured plus bonuses would be calculated based on the SSV formula.
If, say, your insurer provided an SVF of 20 per cent of the paid-up value (Rs 50,000 + Rs 30,000 = Rs 80,000) then your tentative surrender value amount would be Rs 16,000 - (20/100)*80000).
Why this is good for policyholders? This is a significant improvement compared to the previous regulation, where no surrender value was payable before two years, and even after two years, the refund might have been just 30-35 per cent of the total premiums paid.
What These Changes Mean For Policyholders?
1. Early Exit Flexibility: The new rules allow policyholders to revive a surrender value just after one year of premium payments. This provides greater flexibility to those who may face financial constraints and can go longer to continue their policy and need to exit early.
2. Higher Surrender Value Payouts: The improved SSV calculations mean that the policyholders will receive higher payouts when they surrender the policies. This is especially beneficial in the first few years of the policy, where surrendering previously resulted in losses for policyholders.
3. Possible Premium Increases: While these new rules are set to benefit policyholders, several reports state that the insurers may premiums to offset the higher costs of offering more generous surrender values.
4. Still Best to Hold Policy Long-Term: Though the new regulations make early surrender for policyholders less financially punitive, it still would be best to hold your policy until maturity as it would offer the best long-term returns. Bonuses and compounding benefits accumulate over time, providing greater value for policyholders who can stick to their policy terms.
Will this affect any existing policy you have?
Says Gupta, “The new surrender value norms will not affect any existing policies. These changes are applicable only to policies sold on or after October 1st. For existing policyholders, the terms of their policies will remain unchanged as per the contract.”
In conclusion, the new surrender value norms are going to be beneficial for the life insurance policyholders offering higher payouts and greater flexibility to exit early if necessary.
