Hike in surrender value could drag insurers' profitability, say experts

The new business margins for insurance companies would reduce if the surrender value on policy is increased, say analysts.

If the insurance regulator implements a proposal to increase the surrender value of life insurance policies, it could lead to lower profitability for insurers, experts told Moneycontrol.

A CNBC report on April 30 stated that the Insurance Regulatory and Development Authority of India (IRDAI) is mulling increasing the final surrender value of policies terminated before maturity.

This issue has been weighing on insurers for many months as the original proposal mooted by the regulator faced resistance from private insurers.

What is the proposal?

IRDAI's draft guidelines in December 2023 proposed increasing the surrender value to 75-84 percent from 0-50 percent earlier. However, there was no clarity on what percentage it will be, depending on the number of years. This plan was, however, dropped in March, and  the regulator relaxed the surrender value.

As per the March guidelines, a policy holder will get 30 percent of premium paid if the policy is surrendered in two years, 35 percent if surrendered in three years, and 50 percent between four-seven years. The March plan put insurers’ concerns to rest as it was seen as a win-win for insurers as well as policy holders.

CNBC TV18 had reported that the final surrender value could surpass the levels established in March 2024 but may still fall short of those outlined in December 2023.

What industry players are saying

If IRDAI now considers increasing the surrender value, it will likely impact the insurance companies' profitability as well as policyholder’s behaviour, analysts said.

According to Raj Gaikar, research analyst at Samco Securities, "Increasing the surrender value will lead to a higher payout to policyholders before maturity term. This will limit the space for the profitability of the insurance companies."

"While this is in the interest of policyholders, a sharp increase in surrender value would increase the liabilities of the life insurers," said Supriya Rathi, whole-time director at Anand Rathi Insurance Brokers.

On the flip side, the regulation would make early exits easier, which could lead to increased incidence of lapsation of such policies, going forward. "We believe this would be detrimental to the industry and consumers," she said.

Vijaya Rao, senior research analyst, BFSI, at Ashika Stock Broking, said: "New business margins (NBMs) would reduce for insurance companies, if the surrender value on policy is increased."

What will be the hit?

A Kotak Institutional Equities report in December said that though it is too early to assess the full impact, there would be a 120-200 basis point drag on the margins of private insurers.

It further said that since ICICI Prudential and SBI Life had a lower share of non-par in their product mix, the margin hit would be lower -- around 120 basis points. HDFC Life and Max Life, on the other hand, with a relatively higher share of non-par would likely see a 143 basis points and 196 basis points drag in value of new business margins.

Deepak Jasani, head of retail research at HDFC Securities said it was difficult to estimate the impact as it would depend on the rate (number of policies) as well as the time when policies were surrendered.

Besides, experts say that increasing the surrender value would make insurers increase the premium as well. However, this would lead to them losing out on business as it could simply impact the demand for insurance products.

Also read No, IRDAI has not eliminated any 65-year-age regulatory cap on issuing health policies

Margins of life insurance companies have been already under pressure in the past one year. This is because of the buoyancy in equity markets where customers moved to low-margin ULIP plans instead of traditional plans, like term insurance or life insurance. "Margins for insurance companies would come under further pressure, if there is an increase in surrender value," said Rao.

Reaction of stocks

Morgan Stanley, in a brokerage note, said: "Analysts said that they are awaiting the complete details as the industry has multiple options to manage impact. This surrender value revisitation could also be an overhang on stocks, capping the upside until there is more clarity."

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