How To Exit Traditional Life Insurance Policy

If you are reading this article you are probably stuck with a traditional insurance plan and looking for a way out. Until a few years ago traditional policies such as endowment and money-back policies were the poster boys of long-term investments with insurance benefits. However, as term insurance products are gaining popularity many people have started to realize that the value they are getting does not commensurate with the premiums they are paying.

So many investors want to know if there is a way out of the traditional insurance policies they have already bought. And in this blog, we will cover different options that are available to you, if you don’t want to continue with your traditional insurance policy.

Broadly, there are 2 options that are available to you

1. You can surrender your policy
2. You can convert your policy into a paid-up plan

Let’s look at each of them in detail and evaluate which one is better.

In this option, you decide to exit the policy before maturity. When you surrender your policy the insurance company may give back some surrender value in return. Usually, this happens once you have paid 2-3 premium amounts. If you exit before that you may not get anything in return and the premium you paid will be lost. You can refer to your policy document to determine the period after which you are eligible to get some surrender value.

But what is the surrender value for a traditional insurance policy?

There is no fixed formula to determine the surrender value of your policy. Surrender value calculation differs from insurer to insurer but it’s a percentage of the premium paid and the benefits which have already been accrued to you.

You can get the exact surrender value from your policy documents.

Usually, the guaranteed surrender value of the endowment plan is 30% of the premium paid excluding the first-year premiums. For Example, if you have paid 3 premiums of Rs. 25,000 each then you can expect a minimum surrender value of Rs. 15,000 (30% of (Rs. 75,000- Rs. 25,000)).

One important thing to note about surrendering your policy is that you will lose your insurance coverage and hence if you choose this option make sure that you buy a term insurance plan as a replacement. Now let’s look at the second option where you decide to convert your policy into a paid-up plan.

2. You Decide To Convert Your Policy Into A Paid-Up Plan

Under this option, you decide not to pay any more future premiums but also want the policy to continue. You decide not to terminate the policy. Typically this option is available after you have spent 2-3 years with the policy.
Once you convert your policy into a paid-up plan your life cover continues however the sum assured reduces, and the bonuses or additions may no longer accrue.

The new paid-up value is calculated as: Paid-up value = Original sum assured X (No. of premiums paid / No. of premiums payable)

Let’s understand this with an example, Sachin bought a policy 3 years back. In the policy, he had to pay Rs 50,000 annually for 10 years and will receive Rs 8 Lakh at the end of the 15th year.

He also received an insurance cover of Rs. 8 Lakh during the term of the plan. However, due to some financial distress, he is unable to continue with the policy and decides to convert it into a paid-up plan. The following table shows us how his new paid-up value is calculated.

So his new paid-up value is Rs. 2.4 Lakh. Now, Sachin will receive Rs. 2.4 Lakh after the 15th year and also have a life cover of proportionate amount. This calculation may differ from issuer to issuer and hence it’s important to read the fine print of your policy document.

But which one is better? Let’s find out

Which option should you choose?

Having understood both options – surrendering your insurance contract and converting it into a paid-up plan now let’s see which option might be better for you.
The first step to evaluate the available option can be to identify the reason why you want to discontinue the policy.

• If you need money, even if you have to bear the loss then surrendering the policy is the only option where you can get your money back.
• If you want to discontinue because you think that they are not offering you good returns and the insurance coverage is also inadequate then you may want to dig a little deeper.

1. When To Surrender Your Policy?

If you started the policy a few years back (3-4 Years) and have 10+ years before the policy matures then it can be better to surrender your policy Reason: You can invest whatever amount you get in an instrument that offers better returns such as equity and buys an insurance cover which would offer a better cover. Moreover, with more time left till maturity, you can let higher interest-earning instruments compound money for you.

Let’s take the same example of Sachin. He decides to surrender the policy after paying 3 premiums (Rs. 1.5 Lakh) and receives a surrender value of Rs. 50,000. But going forward he decided to buy term insurance with a higher cover of Rs. 50 Lakh which was available at a premium of Rs.10,000 annually. And invest the remaining Rs 40,000 in an equity instrument earning 11% returns. We can see the table below for details.

*Rs. 90,000 is surrender Money received of Rs. 50,000 and Rs. 40,000 investment.

In the above example at the end of the 15th year, Sachin not only has a 13% higher corpus but also has an insurance cover of Rs. 50 Lakh. You can do the same analysis for yourself and see if surrendering your policy is better in your case. It is important to note that in the above example, we have assumed very conservative numbers.

2. When To Convert Your Policy To A Paid Up Plan?

If you are just a few years away from maturity (you need to pay only 2-3 premiums more) then converting to a paid-up plan may make more sense. The loss you make when surrendering your policy might not get recovered when you invest in an instrument that earns better returns. This might happen because the remaining period will be lower. You can do the above analysis and evaluate if you should surrender your policy of converting it into a paid plan.

Similarly, if you are very close to your maturity then you may be better off continuing the policy and not choosing any of the above options.