IC33 English Chapter 6 Notes

Chapter 6: Life Insurance Products II

  • One of the principal purposes of saving and investing is to achieve inter-temporal allocation of resources, which is both efficient and effective.
  • Inter-temporal allocation means allocation across time.
  • Effective allocation implies that sufficient funds are available to satisfy successfully the various needs as they arise in different stages of the life cycle.
  • Limitations of Traditional Insurance Products
  • Savings or cash value component is not well defined. It is determined by assumptions about mortality, interest rates, expenses and other parameters set by the life insurer, which can be arbitrary.
  • It is not easy to ascertain what would be the rate of return on these policies until the time when the contract ends.
  • The method of arriving at surrender value is not visible.
  • The yields on these policies may not be as high as can be obtained from more risky investments.

Advantages of Non-traditional plans:

Unbundling: This trend involves the separation of the protection and saving elements. Consequently, this results in the development of products, which stress on protection or savings, rather than a vague mix of both.

Investment linkage

  • The second trend was the shift towards investment-linked products, which linked benefits to policyholders with an index of investment performance. The new products like unit-linked plans implied that life insurers had a new role to play. They were now efficient fund managers with the mandate of providing a high competitive rate of yield, rather than mere providers of financial security.
  • Transparency: Unbundling also ushered greater visibility in the rate of return and in the charges made by the companies for their services. All these were explicitly spelt out and could thus be compared
  • Non-standard products: The fourth major trend has been a shift from rigid to flexible product structures. This is also seen as a move towards non-standard products. When we speak of non–standard, it is with respect to the degree of choice, which a customer can exercise with respect to designing the structure and benefits of the policy.

Non-Traditional Plans:

  • Universal life insurance policy was introduced in the United States in 1979. It quickly grew to become very popular by the first half of the eighties.
  • As per the IRDA Circular of November 2010, “All Universal Life products shall be known as Variable Insurance Products (VIP).”

Features of Universal Life

  1. Flexible premium
  1. Flexible premium amount
  1. Flexible death benefit amounts
  1. Unbundling of pricing factors
  • Flexible Premium: Policyholder within limits can decide the amount of premiums., make additional premiums, skip premium payments.
  • Partial withdrawal: Make partial withdrawals from the cash value that was available.
  • Adjustment of death benefits: Death benefits could be adjusted and the face amounts could be varied.
  • In India, as per the IRDA norms, there are only two kinds of non-traditional savings life insurance products that are permitted.
  1. Variable insurance plans 2. Unit-linked insurance pla

Variable Insurance Plans:

  • This policy was first introduced in the United States in 1977. Variable life insurance is a kind of “Whole Life” policy.
  • Variable life insurance is a permanent life insurance policy.
  • Premium payments are fixed and not flexible with variable life insurance

The principal difference in traditional whole life policies is in the investment factor.

Traditional Cash Value Policy

Variable Life Insurance Policy
  • Traditional cash value policy has a face amount that remains level throughout the policy term. The cash value grows with premiums and interest earnings at a specified rate.
  • Assets backing the policy reserves form part of a general investment account. In this account, the insurer  maintains  the  funds  of  its  guaranteed products.
  • These assets are placed in a portfolio of secured investments.
  • The insurer can expect to earn a steady rate of return on the assets in this account.
  • Assets representing the policy reserves of a variable life insurance policy are placed in a separate fund. This fund does not form part of its general investment account.
  • This is a policy in which the cash values are funded by  separate  accounts  of  the  life  insurance company. Death benefits and cash values vary to reflect investment experience.
  • The policy also provides a minimum death benefit guarantee  for  which  the  mortality  and  expense risks are borne by the insurance company.
  • The premiums are fixed as under the traditional whole life policy.

Variable life policies have become the preferred option for those who:

  • Want to keep their assets invested in an assortment of funds of their choice
  • Want to benefit directly from favourable investment performance of their portfolio
  • Must be able and willing to bear the investment risk on the policy
  • Are knowledgeable with equity or debt investments and market volatility
  • Unit Linked Insurance Plan (ULIP) is a product offered by insurance companies. Unlike a pure insurance policy, ULIP gives investors the benefits of both insurance and investment under a single integrated plan. ULIP is basically a combination of insurance and investment.

ULIPs are suitable for those:

  • Who wish to monitor their investments closely Whose investment horizon is medium to long-term
  • In ULIP, the premiums paid by the policyholders are invested in funds chosen by them. This is done after deducting the allocation charges and administration charges and for providing insurance cover.
  • ULIP’s are transparent with regards to their term, expenses and savings components.
  • The value of each unit of a fund is determined by dividing the total value of the fund’s investments by the total number of units.