IRDA Regulates ULIP, A Relief For Investors

For the insurer fraternity, ULIP category of products have been in the lime light because of the turf between IRDA and SEBI on who should have a hand over regulating it. After much talk and confusion, the issue was put to rest by the government when it issued an ordinance last week which clarified that ULIPS would be under the jurisdiction of the insurance regulator, IRDA.

Barely a week after that, IRDA has taken a step in the direction of regulating ULIPs by announcing some guidelines which insurers have to adopt by the 1^st of September, 2010.

They include

• Product Tenure

Lock in period for ULIP products are to be increased to 5 years from 3 years so that investors treat it as a long term product and not a short term product.

Impact: Increasing the lock in period will ensure that only investors having a long term horizon invest in this product. Short term gains, the parameter on which this product was mis-sold will be eliminated.

• Insurance cover

The insurance cover for those below the age of 45 years has been increased to 10 times the premium amount from the existent 5 times. For 45 years and above, the same would be 7 times. In addition, top-up premium will be treated as single premium which means it will have to have additional insurance cover backing it. IRDA has also made it compulsory for all ULIPs excepting pension and annuity products to have either a mortality cover or a health cover.

Impact: IRDA wants to make sure that ULIP serves the insurance need and not only the investment need. Investors should be pleased with this change as their coverage amount will increase the basic objective for which an insurance product is being bought.

• Surrender Charges

These have been capped to ensure that insurance companies work towards keeping the policy alive. Earlier, the surrender charges in some policies in the first year were as high as 100% which means the investor gets nothing if he chooses to discontinue the policy early on. IRDA has termed surrender charges as discontinuation charge with the idea being to recover the cost incurred by the insurance company in acquiring the customer. So after the deduction of the charge, the money will be returned at the end of the lock in period which is 5 years. The change is as under

•   Premium < Rs. 25,000 – Lower of 20x annual premium or fund value up to a maximum of Rs. 3,000
•   Premium > Rs. 25,000 – Lower of 6x annual premium or fund value up to a maximum of Rs. 6,000

Impact: This is in a positive development of investors who would lose a lot of their invested money if they wanted to discontinue the policy. The latest development will reduce the outflow substantially.

• Cap on Charges

In order to curb front loading of charges, IRDA has mandated that overall charges be distributed in an even fashion during the lock in period which is five years. For the first five years, insurers are allowed to charge up to 4% of the annual premium paid. Thereafter it has levied a cap on the overall expenses that can be charged i.e. the reduction in yield for policies with term less than or equal to 10 years cannot exceed 3% at maturity and for above 10 years, it cannot exceed 2.25%.

Impact: The cap on charges is a big positive for investors as it will reduce the charges that have to be paid from the premium leaving a larger quantum to be added to the funds. The front loading of charges will be brought to an end which will eliminate the practice of agents selling this product merely for higher commissions.

Pension policies

• Pension or annuity products should offer a minimum guaranteed return of 4.5% p.a. or as specified by IRDA from time to time, on the maturity date.
• Mortality and or health cover could be offered along with the pension/annuity products as riders, giving enough flexibility for the policyholders to select covers of their choice.
• In case of surrender of the policy, a maximum of one-third of the accumulated value can be had as lump sum amount and the rest of the amount will have to be used to purchase an annuity product.

Impact: While the minimum guarantee of return imposed by the regulator is a step towards protecting the life time savings of investors, it may not necessarily be a positive for investors because it will reduce the investment flexibility of the fund manager. Maximum investment will have to be made in debt products while investment could have been made in equity products as the investment horizon is long term. These curb on withdrawal will make sure that some money is left for investors to take care of their financial need during retirement which is a positive for investors.

IRDA has been severely criticized for not taking steps towards regulating ULIPs more stringently especially in the light of the fact that it was managing money for investors (apart from providing insurance benefit) while regulations for mutual funds which also perform the same function were getting stiffer. Besides, there were several complaints by investors in ULIPs on mis-selling and high charges.

The much awaited changes have now been bought to the fore. IRDA has tried to make ULIPs more an insurance product with increased transparency and greater benefit to investors. Investors stand to benefit on account of the cap on overall charges and surrender charges, lock in, conversion of pension product to annuity in case of surrender and higher coverage. The minimum guarantee on pension products is the only area that would not benefit investors as it could curb investor returns because the fund investment would be largely restricted to debt. All in all, it is a thumbs up for investors.