ANNUAL REPORT 2007-08
Box Item 2
LAPSATION OF LIFE INSURANCE POLICIES
Lapsation can be explained as the discontinuance of payment of premiums by the policyholder during the term of the life insurance policy in violation of his obligations set out in the terms of the policy contract. It usually results in termination of risk cover on the policy. In case of lapse of a policy in the first few years, all or most of the premiums paid are usually forfeited by the insurer and the policyholder ends up losing whatever premiums have already been paid towards the policy.
This phenomenon has emerged as a major bane of the life insurance sector in view of the large number of policies falling into lapsation at different time points of the contracts. The fact that as many as 86 lakh non-linked policies have lapsed in the year 2006-07 holds mirror to the seriousness of the matter.
Lapsation can be categorized as first year lapsation and renewal lapsation, based on whether the policy lapses in its
first year itself or after the premium for the first year has been fully paid.
When a policyholder purchases a policy under wrong advice, information or perception and realizes later that the features of the policy do not match his requirements, he is most likely to return the policy under free-look provisions. In case he is not able to exercise free look option within 15 days from the receipt of the policy bond, he may have no option but to discontinue the policy. It is also possible that many policyholders may not even be aware of the introduction of the free-look provision under clause 6 (2) of the IRDA (Protection of Policyholders’ Interests) Regulations, 2002, as a result of which they may allow the policies to lapse. Majority of the lapses occurring in the first few years of the policy are caused by mis-selling — intentional or otherwise, and selling under duress – for instance, in consideration of a loan sanctioned by a Bank or any other nature of ‘favour’ done by the insurance salesman to the policyholder, or
under ‘obligation’ to a relative or a friend.
In addition to the above, the degree of lapsation of policies is impacted by the quality of follow up for renewal premium
payments as well as the convenience in payment of premiums.
Overselling as well as decline in the fortunes of the policyholder make the policy unaffordable to him and are therefore likely to lead to its surrender or lapse.
Termination of agency which is quite rampant in the industry renders millions of policies ‘orphan’. Orphan policies are prone to neglect due to lack of follow up/servicing support of the procuring agent and are known to lapse in large numbers. The Insurance Act, 1938 through section 40 (2A) has therefore created a provision for payment of commission on orphan policies revived (based on medical examination) by an agent other than the one procuring the same.
In the era of multi-channel distribution, it is observed that some of the new channels have the muscle to sell while they are not supported by adequate servicing infrastructure. This impacts lapsation ratio. Insurers therefore need to monitor channel-wise levels of lapsation in order to plug the same.