Unit-linked insurance plans (Ulips) are likely to become more affordable for small investors following the Insurance Regulatory Development Authority?s (IRDA?s) decision to clamp down on the exorbitant fees being currently levied by insurance companies. Ulips combine investment and insurance and involve high costs. At the moment, much of the burden falls on the investor. For example, of Rs 100 paid as premium in the first year, the agent can get as much as Rs 40, which is called the premium allocation charge. Then there are other charges that eat into the return that should normally go to the investor. This policy change is, to the extent that it helps raise returns for investors, unambiguously well-meaning in intention.
However, it may turn out to be more complicated in practice. Under the new rules, which take effect on October 1, the cap on charges will depend on the difference between the gross yields and net yields of the policy. Gross yield is a measure of return on investment compared to its price, while net yield is calculated by subtracting all charges from the gross yield. Now, IRDA has mandated that the difference between gross and net yields for ten-year policies can be no more than 3% and for policies of more than ten years, it should be no more than 2.25%. So, if a ten-year fund earns a return of 15%, the investor must get a return of at least 12%. At present, this can go up to 4%, depending on the tenure of the investment. The charges usually include a mortality levy, fund management fee, policy or administration fees and a surrender charge. The obvious problem for the small investor is to get all the calculations right by themselves. Most of the products use complex quantitative investment models that are not easy to comprehend and most investors do not understand the nitty-gritties. So, the difference between the gross and net yields may escape most common investors. Since over 90% of private insurers? policies and 85% of LIC?s are Ulips, the new rule will have a huge impact. Therefore, IRDA should think of a simpler rule.
