RELIGARE FINVEST LTD.

Document Type: Concept Paper

Product: Loan against Insurance Policy (LAIP)

Author: Anuj Kumar, Intern, Religare Finvest Ltd.

Dated: 27th May, 2011

INTRODUTION

Statement of Problem

People, now a days, require the money on continuous basis in order to meet their requirements.
Requirements can be personal, or business related. People tend to save money for future and for that they
made investment in various securities like shares, bonds, mutual funds, Insurance, etc. In order to meet
their requirements, they may dilute their investment, which would have negative effect on the wealth of
the investors. They usually forego their investment without adding to their wealth.

Statement of Solution

In order to meet their requirements, whether personal or business, Loan against Insurance Policy can be
the answer. Many of the investors dilute their investments in insurance and become unprotected against
the various kinds of risks. Loan against Insurance Policy would provide them with instant liquidity to
meet their funds requirement by keeping their insurance policy as collateral to the company.

BACKGROUND

Insurance

In terms of law and economics, Insurance is a form of risk management primarily used to hedge
against the risk of a contingent, uncertain loss. Insurance is defined as the equitable transfer of the
risk of a loss, from one entity to another, in exchange for payment. An insurer is a company selling
the insurance; an insured, or policyholder, is the person or entity buying the insurance policy. The
insurance rate is a factor used to determine the amount to be charged for a certain amount of
insurance coverage, called the premium. Risk management, the practice of appraising and
controlling risk, has evolved as a discrete field of study and practice.

The transaction involves the insured assuming a guaranteed and known relatively small loss in the
form of payment to the insurer in exchange for the insurer's promise to compensate (indemnify) the
insured in the case of a financial (personal) loss. The insured receives a contract, called
the insurance policy, which details the conditions and circumstances under which the insured will
be financially compensated.
TYPES OF INSURANCE

 Term Insurance Policy

Term life insurance or term assurance is life insurance which provides coverage at a
fixed rate of payments for a limited period of time, the relevant term. After that period
expires coverage at the previous rate of premiums is no longer guaranteed and the client
must either forgo coverage or potentially obtain further coverage with different payments
and/or conditions. If the insured dies during the term, the death benefit will be paid to
the beneficiary. Term insurance is the least expensive way to purchase a substantial death
benefit on a coverage amount.

Term Insurance has no surrender value. Entire amount is complete forgo.

 Endowment Insurance Policy

An endowment policy is a life insurance contract designed to pay a lump sum after a
specified term (on its 'maturity') or on earlier death. Typical maturities are ten, fifteen or
twenty years up to a certain age limit. Some policies also pay out in the case of critical
illness. Policies are typically traditional with-profits.

Endowments can be cashed in early (or 'surrendered') and the holder then receives the
surrender value which is determined by the insurance company depending on how long the
policy has been running and how much has been paid in to it.

 Unit Linked Insurance Plans

A unit-linked insurance plan (ULIP) is a type of life insurance where the cash value of a
policy varies according to the current net asset value of the underlying investment assets. It
allows protection and flexibility in investment, which are not present in other types of life
insurance such as whole life policies. The premium paid is used to purchase units in
investment assets chosen by the policyholder.
Surrender Value of Policy

The cash value of an insurance contract is also called as cash surrender value or surrenders value,
is the cash amount offered to the policyholder by the issuing life carrier upon cancellation of the
contract. To receive the cash value, the policyholder is normally obliged to surrender the policy
received at outset of the contract to the issuing life insurance company as documentation of rights
under the contract.

Cash values are usually agreed for the case of premature cancellations in those forms of insurance
contracts, especially life insurance contracts, in which a portion of the premiums go toward an
investment, like whole life insurance or endowment life insurance and other forms of permanent
life insurance. Such amounts are often certain to be paid, either in case of death or in case of
survival, and therefore not under risk. The contract determines for each possible cancellation date
the related cash value. If the investment of premiums is contractually made in an individual
account, the cash value is the value of the investments in that account at any particular time. Such
cash value credited to an individual account during the tenure of the policy keeps growing with
every payment of premium. It also increments due to interest credited.

The policyholder may also be able to use the cash value as collateral on a loan.

The cash value will often be similar or even equal to the reserve to be held by the insurance
company for the net obligations from the contract. As such, the amount is usually invested and
earns investment income for the insurance company which is to some extent forwarded to
policyholders of participating contracts.

Since often initial premiums are not invested but covering initial costs associated with selling the
contract (up front or front-end fee), the amount available may be significantly lower than the sum
of premiums paid for some time, initially even zero. Later, interest credited might compensate that
initial loss.

The value of the investment is often subject to a surrender charge in determining the cash value. A
surrender charge offsets the costs associated with selling the contract and allows these contracts to
be sold with little or no upfront fees. Surrender charges are imposed when a contract is cancelled
within a set time frame. Any cancellations after that time frame are not subject to a surrender
charge. Typically surrender charges decrease on an annual schedule until they disappear altogether.
ACTION PLAN AND REQUIREMENTS
Objectives

 To provide the short term liquidity to the Insurance Holders to meet up their requirements
 To find the various features and additional benefits that can be provided to borrower
 To find the various risk attached with the product
 To find the current placement of the product in market with respect to competitors
 Discussing the risk management techniques that should be implied in order to minimise the risk to
which organization will exposed to

Potential Collateral for the Product

The most favoured product which should be used as Collateral is Endowment Policy. Reasons behind
selecting this type of Product are:

- Term Policy does not refund money to the “insured” at the time of maturity
- Loan against ULIP is against the rules and regulations of Insurance Regulatory and Development
Association (IRDA)
- Endowment policy pays a lump sum of money either at the time of maturity or in the event of “death”
of the “insured”.

Thus, Endowment policy would be best collateral for the product in comparison to other types of
insurance products.
Description of the Product

Loan against Insurance policy (LAIP) primarily focuses on providing the investor with the opportunity of
meeting short term requirements for funds, without losing the investment in life insurance policy. Loan
against Life Insurance Policy would provide policyholders with instant liquidity without surrendering the
life insurance policy.

Features suggested

 It can only be availed by the Individuals

 Minimum Amount – TBD by the company (10 Lakhs suggested)
 Facility upto 70 – 80% of the surrender value of current year ( Percentage would depend upon the
profile of the borrower)
 Interest* would be charged on the amount utilized
 No Pre – payment charges
 Minimal Processing Fee*

*Interest Rates and Processing fee to be discriminatory

Loan against Insurance Policy Interest Rate Charges

Sr. No. Loan Amount Rate of Interest

1. Upto 10 Lakhs As per company policy,

competitive and
discriminatory
2. 10 Lakhs < Sum < 25 Lakhs -do-
3. Above 25 Lakhs -do-
Scope of the Product

In India, there are about 450 million life insurance policy holders, with Life Insurance Corporation
of India leading the way with more than 50% of the market share.

Here is the statistics of Life Insurance Policy Holders in India with respect to the top 10 companies:

Serial No. Name of Company Number of Policy Holders

1 LIC of India 250,000,000
2 Bajaj Allianz 53,000,000
3 Birla Life Insurance 2,400,000
4 HDFC Standard Life 16,000,000
5 ICICI Pru Life Insurance 12,000,000
6 ING Vyasya Life Insurance 1,000,000
7 Max New York Life Insurance 13,943,000
8 Met Life Insurance 7,000,000
9 SBI Life Insurance 50,000,000
10 AEGON Religare

Risk Associated with the products

 Credit Default Risk

In case the “insured” failed to pay both premium and loan repayment
 Policy Evaluation
Large number of Life Insurance Policies offered by both Public and Private Player
 Operational Risk
Standard Rules and Procedures to be followed
 Regulatory Risk
IRDA regulates the Insurance Sector.
 Competition Risk
Leading Private and Public Banks are offering the same product with some of the NBFCs as
well.
Risk Management Techniques
 Credit Default Risk
In case the borrower fails to pay the premium and the grace period allowed to him is
also over, then, policy would be lapsed or terminated and the surrender value will go
to the lender.
 Policy Evaluation
Need to study about the various policies against which leading banks are lending
against and list should contain more of LIC of India’s policies and less of private
companies
 Operational Risk
Continuous monitoring of the EMIs and premium to be paid by Borrower is required
and constant check on the surrender value of policy
 Regulatory Risk
Before launching the product, IRDA (Insurance Regulatory and Development
Authority) rules and regulations should be kept in mind