India’s New Unit-Linked Insurance Rules Puts Stress On Profitability

India's new regulations on unit-linked products will put stress on life insurance companies' profit margin, with the need to streamline cost management, distribution and commission efficiency and product strategy.

Unit-linked insurance's new business profit is expected to drop to between 10% and 11% from the current level of between 16% to 21%, according to a study by financial services firm Edelweiss Capital and solvency requirements could rise by 40% and 25%, respectively, due to higher new business strain and expense.

"Regulatory strictures could hit the life insurance industry, forcing it to face the dual impact of volume dip and lower margins," said Edelweiss in the report.

Though new business volumes could remain robust till the first half of fiscal year 2011 as distributors put out existing products, they could drop by the second half of 2011 to 2012 as excesses in the system get corrected, said Edelweiss.

A major concern for the insurers will be a negative impact on unit-linked products volume in the short to medium term. For private insurers, Edelweiss said the volume is expected to remain flat over 2011, and 2012 may see a 10% decline.

In India, unit-linked insurance contributes 54.8% of business in the life sector. In 2009, unit-linked business grew 35.33% compared with 25.83% growth of overall life business, according to Insurance Regulatory and Development Authority. The first year premium of unit-linked insurance increased to 599.96 billion rupees (US$12.84 billion) from 443.32 billion rupees a year ago (BestWire, July 13, 2010).

Uncertainty for business growth has prevailed in the life sector due to the controversy on new regulatory norms for unit-linked insurance. "The industry is ready to put the uncertainty behind it and get back on the high growth path of renewal premiums with higher focus on persistency," said the Life Insurance Council, in a statement.

The new guidelines on product features and fee structure will be implemented in September as part of new regulation to make unit-linked insurance a long-term protection contract, covering risks related to mortality, longevity and health and offering a fair deal to policyholders.

Under the new unit-linked rules, lock-in period and premium payment increased to five years from three years. The regulator caps the difference between gross and net yield, reduces surrender penalty and mandates higher risk cover with unit-linked policies.

All unit-linked pension or annuity products will provide a minimum guaranteed return of 4.5% per annum or as specified by IRDA from time to time. Discontinuance penalty is capped to encourage agents to persuade policyholders to renew policy.

"With a cap on charges, efficient cost-management is the only lever and differentiator available to insurers to manage profitability," said Edelweiss. Insurers are not allowed to renew an agency licence if the average annual persistency ratio is less than 50%.

"Persistency will also improve due to renewals because if that does not happen, then profitability will be affected," said a spokesperson of the Life Insurance Council. A certain amount of guarantee like the suggested 3.5% by IRDA's guidelines in June, has to pay for lapsed policies.

As a result, commissions will be rationalized and fall. "Renewal premiums will surely pick up and more single premium policies will be sold," said the spokesperson.

In the first quarter, the commission has come down to 5.81% from a 6.72% level that prevailed in March 2010 due to a capping of charges introduced by the regulator last year, said S.B. Mathur, secretary general of the Life Insurance Council, in a statement.

"However, the full year's impact will be felt in the current year and commission will further come down with the new regulations coming into force from September," said Mathur.

A major challenge for insurers is to manage operating expenses effectively. A cut in commission rates would result in volume dip, requiring further cuts in fixed costs until optimal scales are achieved, according to Edelweiss.

Insurance companies backed by banks such as SBI Life, ICICI Prudential, HDFC Standard Life and Kotak Life are better placed in the changing structure because they have the advantage of a strong brand, variable cost structure and access to network sharing, according to Edelweiss. Bancassurance will gain prominence in distribution.

In the medium term, life insurers will focus on the 20 most populous towns rather than experimenting with low per-capita income under-penetrated areas. The agency force is more suited to sell complex risk-based products, said Edelweiss.

The product mix is expected to change as insurers focus on longer duration and high persistency products. India's life insurers have emerged as "savings mobilizers" rather than "risk managers" while high savings rate and under-penetration supports growth structurally. However, Edelweiss said "it's not only about penetration, but acquiring business viably."

In the first quarter of 2010, for the fiscal year ended in June, new life premium increased 76.76% to 255.7 billion rupees, with a rise of 101% to 139.4 billion rupees and 54.42% to 116.3 billion rupees in premium, for new unit-linked and non-linked business, respectively.

Total renewal premium of the life sector was flat because traditional policies' renewal premium was stagnant. Life Insurance Corp. of India was a dominant player, according to the Life Insurance Council.

Renewal premium for unit-linked insurance rose to 554.9 billion rupees from 88.3 billion rupees between the fiscal years of 2006 and 2009, with an annual growth rate of 58.35%. In the quarter ended June 2010, private insurers' unit-linked renewal premium increased 12.4% to 79.5 billion rupees, according to the Life Insurance Council.

(By Iris Lai, Hong Kong bureau manager: [email protected])