When to exit expensive insurance policies

You can exit Ulips after five years, says Priya Nair.
Illustration: Dominic Xavier/Rediff.com

In the tax filing season, many people go ahead and buy insurance policies just to save some tax.

And it is only after a couple of years that they realise that the policy is too expensive to maintain.

Worse still, there are situations when you realise that a market-linked product is giving extremely low returns vis-a-vis your equity fund, simply because of the high costs.

Many financial planners would advise you to immediately exit such policies and invest the premium in equity funds.

Yes, in some cases, there would be a loss. But it's better cut your losses sometimes than to lose big.

A typical sales pitch for buying insurance, besides the tax saving element is guaranteed returns promised by traditional products like endowment or moneyback policies or as mentioned before, market-linked returns in case of unit-linked insurance plans (Ulips).

"While the advice to clients is to use the opportunity to book the profit in Ulip- related schemes during bullish markets, it does not depend only on market performance," says Mimi Parthasarathy, MD, Sinhasi Consultants.

The insurance regulator has also come to the policyholder's aid with a recent circular.

The Insurance Regulatory and Development Authority of India (Irdai) has warned insurance companies not to delay the release of fund value in discontinued unit-linked products, even in cases where customers have opted for complete withdrawal within the lock-in period.

Here's a checklist before surrendering your Ulip.

Check the lock-in period, exit load, surrender value, performance of the fund and most importantly, whether you have any other life insurance cover to compensate the loss of coverage if you exit.

In case of traditional polices, check any bonuses that may accrue (based on past bonuses announced by the insurance company) and the premium payment term that is left.

Certified financial planner, Amit Kukreja, says that once you have bought an Ulip, it might make sense to hang around for five years at least.

The lock-in period for Ulips is five years or three consecutive premiums, after which you can get the surrender value.

You need not pay the fourth and fifth premiums, but cannot withdraw the money before five years.

Before the Ulip guidelines were revised, there was no lock-in period.

But due to the high surrender charges, exiting the policy was very expensive.

In traditional policies, the lock-in period is three years after which you can get a surrender value.

Policyholders stand to forfeit the entire invested amount, if the premium has not been paid for three consecutive years.

Suresh Sadagopan, financial planner, says that if Ulips have done worse as compared to mutual funds or just the same as mutual funds over a long period of time, it may be a good idea to exit it.

Because in mutual funds one has flexibility to switch fund managers and schemes based on the mix one needs and investment performance.

"Endowment plans can be continued if one is close to maturity (say the maturity is just three to four years away). Else, it may make sense to surrender them as they typically offer low returns," says Sadagopan.

"One should look at what is the sum assured you are getting and what is the return on investment you are getting. And what is the loss in case you exit and if that can be minimised," says Kukreja.

"In this case," he adds, "the loss is the number of premiums paid, times the premium and the money you get back when you surrender."

"If the surrender value is lesser than the number of times the premium that has been paid," Kukreja says, "then it is a loss."

"If the surrender value is higher, you are getting some money back and it is better to take the money in your hand and exit."