On July 5, 2019, when the Finance Minister presented the budget, she was unambiguous in positioning the insurance sector as a critical route to integrating India with the global financial system. She showed her intent of investing in long-term measures such as inviting top international insurance companies for the annual global investor meet. At the same time, she is keen to take immediate actions such as increasing the limit for Foreign Direct Investment (FDI). Some of these steps are quite nuanced in their ability to address on-the-ground issues.
Widening the FDI ambit
Specifically, in respect of FDI, the minister made a distinction between insurance underwriters and intermediaries. She proposed a 100 per cent FDI for intermediaries while keeping the limit at 49 per cent for insurers, for now. Historically, the fate of intermediaries has followed that of the underwriters, although the characteristics of the business are vastly different. Intermediaries earn a trading income with no exposure to their balance sheet. Insurers earn a trading income as well as an investment income, by carrying the risk on their balance sheet. So, a distinction in treatment for their capital needs is a significant and relevant deviation from the norm.
Given the size and diversity of our country, building access to customers is difficult. Even the products that exist today have not achieved their full distribution potential. To do so, intermediaries have to substantially invest in physical infrastructure in remote areas, ramp up technology and undertake massive awareness campaigns. Commission paid to intermediaries is typically low upfront and annually recurring in nature. This leads to a huge capital outlay upfront with the expectations of future payoff. Venture capital and private equity firms, understand this business model. However, most of these happen to be domiciled abroad. The ability to raise such foreign investment will encourage local entrepreneurs to build solid distribution platforms.
Setting local operations
Then there is the opportunity for large insurers and global intermediaries to setup operations in India. Some large global insurers have setup distribution models in India. The preferred route for them has been the corporate agency channel. This channel of distribution comes with limitations of its own. Over-dependence on an insurer with little manoeuvrability on the product design is one such drawback. Companies with similar intent can now explore the insurance broker route. They could either buyout an existing firm, partner with them, or build a greenfield firm. Given that we have hundreds of domestic broking firms, with deep domain expertise, the first two options seem more likely, thus creating a new set of opportunities for existing entrepreneurs and workforce. The market is substantially large to allow the co-existence of several sizeable niches.
The second policy move to encourage capital investment in the sector was to reduce the requirement of Net Owned Funds for opening of branches by foreign reinsurers in the International Financial Services Centre. The requirement has come down to Rs 1000 crore from Rs 5000 crore earlier. This reduced requirement would encourage specialist reinsurers to open branches. Often, clients have to explore offshore markets to transfer specialized risk. For example, Representations and Warranties insurance for Mergers & Acquisitions is a highly specialized domain. Most of this is currently written abroad. More local branches would facilitate on-shoring of international insurance transactions.
Then, a policy move that directly impacts customer was introduced via change in TDS for life insurance policies. As per the earlier rules, if proceeds of a life insurance policy qualified for a tax deduction at source, then TDS was deducted at the rate of 1 per cent from gross maturity proceeds. As per the new proposal, TDS will be deducted at 5 per cent on a net basis. Its actual on-the-ground implementation still needs to be worked out. Proceeds linked to death will remain tax-free. Also, policies that meet the conditions of section 10(10)D will not attract any tax.
A strong and resilient financial system requires a mature insurance sector. With such policy changes, more people would get insured, with a larger suite of options to choose from and more competitive premium, thus aiding growth and enabling the sector to mature. There is a lot more left to reform including tax benefits for first-time insured, encouraging SMEs to buy business insurance, and building a wider cover base for catastrophes. If the government maintains such a nuanced approach, it is only natural that these steps would be taken next.(The author is co-founder and principal officer at SecureNow)