Many of us feel that the benefit amount we receive on maturity of life insu...
Many of us take a life insurance policy because it offers guaranteed returns on investment. And by saying returns, one understands that it means the “principal” plus a part of the “interest” earned by the insurance company by using or investing that principal amount. However, very few people know that a good amount of those returns comes from bonuses declared by the insurance companies in their life insurance policies.
In addition to returning the premium and interest on maturity, life insurance companies also offer bonuses to some of their customers. Which raises the 2 Golden questions – One – Where does the Bonus generate from? and Second – Why only to some customers? When Life Insurance companies make profits and share the profits with their policyholders they do so by calling it a Bonus. But the bonus is not shared with every customer or every policyholder. There are a select few who are awarded bonuses in their life insurance policies.
It’s mainly the traditional insurance policies like the endowment policy, whole life insurance policy and money back plan that are eligible for bonus. Each type of Traditional Policy has 2 versions, namely the
§ Participating Insurance Policy and
§ Non-participating Insurance Policy
Participating insurance policy means that this particular policy will participate in the profits of the insurance company. And hence only the Participating polices receive bonus and the Non-participating do not. Participating Policies are also called Policies with Profit. Of course, the premiums for participating policy are higher than the non-participating policy for a similar coverage and same customer criteria. The key features of Participating policies are:
§ It pays bonus to policy holders
§ Minimum 90% of the profits earned by the life insurance company has to be distributed to the policy holders The insurance company can retain maximum 10% of the life fund’s surplus.
§ The percentage of bonus that is paid to the policyholder depends upon the surplus of the life fund
What is Life Fund?
Life Fund is the fund that has been set aside by the Insurance companies to pay death claims. So each Insurer has an internal calculation of how many people are expected to die within a certain period. And they set aside the money to pay out the death claims.
The life fund can only be invested in fixed return guarantee products like the bank fixed deposits, etc. where the money can be withdrawn irrespective of the market performance. As mentioned earlier, the bonuses are largely a factor of surplus in the life fund. A surplus can happen in the Life Fund under the following circumstances:
1. Favourable Investment experience - If banks provide a higher rate of return than expected to the life insurance company
2. Favourable Mortality experience - if less number of people die within a specific period than calculated by the life insurance company
3. Ceding bonus - Bonus received by the life insurance company from the re-insurers
Non-Participating Policies are also called Policies without Profit. The key features of Non-participating policies are:
§ Policy holders do not get a share of the profit hence returns are not dependant on the profit
§ Returns on policies are in the form of guaranteed returns or rise in the fund value in case of ULIPs
ULIPs are institutionally non-participating policies. And therefore, the policyholder can participate in the bonus that has been declared only in traditional policies.
Thus, the policyholder will have to choose whether he wishes to have a Participating Policy or a non-participating one, right at the inception of the policy. In case he chooses the participating policy where he would get a bonus, his premium would also be higher than the non-participating policy. Many people choose participating insurance policy and take part in the bonus as it is a very lucrative offer when compared to the slight extra premium they need to shell out for the same.