Death benefit in a life insurance plan may not be the same as the sum assured

Sum assured is the money that the insurer pays in case the insured event takes place. In life insurance, the insured event would be death of the policyholder during the policy term. Sum assured or death benefit is a very important factor in deciding the premium. Other factors include your age, term and the type of insurance policy. But with a traditional insurance-cum-investment plan, the sum assured may not exactly be the death benefit. This is due to a change in regulations that define the minimum level of death benefit for all policies.

The case of zero insurance

Product regulations started in 2010 with unit-linked insurance plans (Ulips) and then turned to traditional plans. One of the flaws of traditional products that the Insurance Regulatory and Development Authority of India (Irdai) pointed out was that some plans gave no insurance, only a return of premium as death benefit even though the maturity benefit was called sum assured. This sum assured was at least five times the annual premium and since the tax rules didn't define sum assured to mean death benefit, these policies enjoyed tax benefit-tax deduction on premiums and tax-free maturity proceeds.

To correct the anomaly, the Finance Bill 2012 defined the sum assured to mean the minimum amount assured in case the insured event takes place. Further, to increase the protection element, it increased the threshold of sum assured eligible for tax benefits from five times to at least 10 times the annual premium. Irdai also mandated a minimum level of death benefit for all insurance policies in its product regulations, which became effective from 2014. These state that the sum assured will not be less than 10 times the annual premium for individuals below 45 years of age. And older individuals, the sum assured is 7 times the annual premium.

For policies with a term of less than 10 years, minimum sum assured is five times annual premium for all. Further, the rules mandate that the death benefit given to the beneficiary at any time during the policy term should not be less than 105% of premiums paid. So, if the policy term is 30 years and annual premium is ₹1 lakh, if death occurs in, say, the 25th year, the death benefit will not be 10 times the annual premium, i.e., ₹10 lakh, but 105% of premiums paid till date, ₹26.25 lakh.

Death benefit now

In traditional plans, the sum assured is usually the minimum amount guaranteed on maturity or on death of the policy holder. In fact, participating plans declare the annual bonus as a percentage of this sum assured. But if this sum assured is pegged at 10 times the annual premium, the insurer will have to declare a lower bonus as a percentage of the sum assured. So, to be able to declare a higher percentage of bonus, insurers have bifurcated the sum assured and the death benefit. Now, in traditional plans, sum assured usually means the minimum guaranteed amount payable on maturity, whereas death benefit is paid as higher of the sum assured or 10 times the annual premium if you are below 45 years, or 105% of the premiums paid till date.

In arrangement with HT Syndication | MINT

This article was originally published on December 01, 2015.