It was reported earlier this week in this newspaper that the insurance regulator is considering allowing portability in life insurance products. You can read the story here. I’m going to unpack what this means and whether it is possible to ‘port’ an insurance product. First, what is portability? When we think of a telecom service, then switching service providers from say, Airtel to Jio, is portability. Your number and basic services remain the same, but you switch your service provider. S.S. Mudra, deputy governor at the Reserve Bank of India (RBI), had suggested last year that bank account numbers become fully portable. You can read the story here. While bank account number portability is yet to happen, the logic is clear—our phone numbers and bank accounts are linked to multiple services we use. Often we stay with the service providers or banks out of inertia.
Portability is really about giving the freedom of choice to the consumer—a key piece of free markets. Mutual funds are partially portable, post lock-ins, exit loads and tax treatments. For example, on the 366th day of holding an equity mutual fund that has not levied an exit load, an investor can switch from one scheme in a fund house to another scheme in another fund house at no cost, other than the time taken to redeem and repurchase units. The only risk is of the market going up during the transition. For portability to be useful, it should not cost too much in terms of time, effort or money. You should be able to switch from a higher-cost service to a lower cost one, and from a poor service provider to a better one.
Let’s think about portability in a life insurance product. In a pure term or risk-cover-only policy, portability is possible and, minus the pain of on-boarding, is happening already. If you’ve moved from an expensive term plan bought 7-10 years ago to a cheaper plan bought online, you’ve effectively ‘ported’ your policy, though it is not called that. One insurance veteran I spoke to said that given the current structure of the industry, portability is possible only in a term plan. He was of the view that portability could reduce the on-boarding pain of a health check-up and other paperwork. But don’t expect premium rates to remain the same when you ‘port’—they will go up as you age due to the nature of the insurance business.
Unit linked insurance plans (Ulips) are the next that could be made portable. I have argued before for portability in the investment part of Ulips. A Ulip is nothing but a mutual fund with a crust of a life insurance cover. The mutual fund part of Ulips has poor disclosure and benchmarking standards when you compare it to the regulatory requirement that the mutual fund industry faces. I have argued that the fund management part be outsourced by the insurance industry to the mutual funds, and insurance firms provide the wrapper of a life cover. When this happens, the investment part becomes ‘portable’ with disclosure and benchmarking standards that are much higher than what exists in insurance firms. For this to happen, deep changes are needed in the retail financial sector, just the announcement of portability by one regulator will not cut it.
Portability is not possible in traditional plans, as they stand today. These make up 87% of the market and the most hard-sold of all life products due to the high front commissions they bear. Cost and benefits are opaque and portability is impossible in practical terms because each product is different. Says an insurance company CEO: “I can’t see it happening in traditional plans. There needs to be much more standardisation of costs and benefits before this is possible. Portability will finally lead to unbundling.”
Unbundling is the separation of the cost of the risk cover, or mortality, and the investment part of a traditional plan. Ulips are unbundled since you can see the two costs separately. In addition, the Insurance Regulatory and Development Authority (Irdai) will have to drastically reduce the surrender costs for portability in traditional plans to work. Surrender cost is the hit you take on your premiums paid if you change your mind about the policy after you have paid the first premium. Today if you stop funding your policy in year two and three, you get nothing back—the insurance company keeps all your premium as costs. Surrender costs go down but not by that much as the policy ages. Without a cap on these charges, why will a new insurance company port a plan with all the value already gouged out by the first insurer?
Irdai will have to bring surrender cost rules in line with the Ulip rules, which cap surrender costs at Rs6,000 and have a 5-year lock-in. Both look very difficult, given the current regulatory thought. In 2015, the Bose Committee had recommended both the unbundling of life insurance policies and reduction of surrender costs, but Irdai has not taken note of the report till now.
So why would Irdai be thinking about portability? My guess is to check the box for the ministry of finance. There is pressure on the regulator to show a consumer-friendly face and portability is one such action. The regulator can safely pass the buck to firms and customers when portability, minus the unbundling and surrender charge reform, is still-born.
Monika Halan works in the area of consumer protection in finance. She is consulting editor Mint and on the board of FPSB India.
She can be reached at monika.h@livemint.com