ULIPs = Long-term protection cum savings products
With the inter-regulatory spat over ULIPs being firmly settled in its favor, IRDA has announced sweeping new regulations with the objective of changing the very essence of how ULIPs were structured and sold.
The changes are both from the regulator side as well as the proposed changes in the DTC that will become effective from the year beginning on April 1, 2012.
First let’s look at what the current draft of the DTC says.
Under the DTC all receipts from any life insurance policy is treated as income. However full deduction is allowed for any receipts from a life insurance policy if the amount is received at the completion of the original period of contract or death and the capital sum assured is at least 20 times the premium payable in any year.
In simple words it means that under the DTC (effective April 2012) tax exemption will be available for sums received under the insurance policies only if those sums are received on maturity (or earlier on death) and also if it has a certain minimum level of death protection.
Since tax is a major driver for buying Insurance policies (a rather unfortunate situation) this single change itself will make sure that any potential mis-selling around the tenure of the policy will be limited. It is quite possible that unless the amounts are paid on maturity or on death there might be TDS on the sums paid out on premature withdrawals – thus making them less attractive.
Combine this change with the fact that a 5 year compulsory lock in period has been introduced by IRDA will make sure that this is perceived as at least a 5 year product. In the other very significant change IRDA now requires charges to be spread over the first five years (and not front loaded as is the case currently) and has additionally introduced a maximum spread of 4% between the gross yield and the net yield at the end of 5 years. These two changes when combined will ensure that the commission structures and other charges are kept reasonable.
On the pension front the revised IRDA guidelines require a minimum guaranteed return linked to policy rates 4.5% p.a. return guaranteed for the first year. This requires the insurance company to invest primarily in debt instruments to meet the guaranteed return and makes it less attractive for long term savers who need a significantly higher percentage invested in equity to get good returns on their long term savings. Only a few of the insurance companies have taken approval for a pension plan and under the new ULIP guidelines and only LIC has launched the product.
At the risk of sticking my neck out let me do a bit of crystal gazing for the next financial year:
1) Commissions on ULIPs have reduced significantly and also spread over a longer period. This will force the much-needed professionalism of the financial services distribution industry, which will contract as the non-serious players leave the industry. However the serious challenge of consumers paying for advise separately from execution will continue to remain (this is a subject matter of another article) and hence mis-selling though reduced will continue to be driven by the products (read traditional endowments/money back plans) that offer relatively higher fee to the distributors.
2) We will see an increase in the mortality charges in ULIPs as these are not taken into account while calculating net yield and thus can be used to pay some additional commissions to the distributors. Paradoxically this will make pure term plans from the same company more attractive as those charges will need to be competitive as they can easily be compared across companies.
3) Investment continues to be a push activity in India and consumers willing to pay for advise are a small percentage of the overall consumers. At some point (and I am really sticking my neck out here) SEBI will have to relent and allow for fees to be paid to intermediaries upfront as well. Maybe this may take time but I think there may not be an alternative if the retail MF industry is not to become extinct.
4) The new NPS scheme will also allow better margins for intermediaries if it is to become relevant beyond the captive audience of government and PSU employees.
5) 5 year or more single premium plans will become popular – as they are currently- but collections will not be as high as they are today simply because of the high life protection required to make the plans tax exempt. This requirement will prevent too many applications coming in from the high net worth band. They will do some circumvention by putting in applications in the name of their younger children etc. but the high cost of the protection plus the difficulties in doing financial underwriting for large insurance polices will ensure that the maximum investments are kept in check.
6) There will be an increased focus on risk products (term insurance as well as Income protection plans)
7) There will be a big focus on online distribution of products (or telephone assisted online distribution) with simple products specifically tailor made for online consumers as the insurance companies look for cost effective channels for distribution.
Of course there will be lots of other ramifications as well.
We are in for some very interesting times from the next financial year. I would welcome readers views on what they expect will happen next.
The author is CEO, Apna Paisa, a search comparison engine for loans, insurance and investments. He can be reached at firstname.lastname@example.org.
Deduction in respect of payment in the previous year of interest on loan taken from a financial institution or approved charitable institution for higher studies.