With the increasing financialisation of the economy, banks have started aggressively selling a number of financial products to their customers as mutual funds (MFs) and insurance policies. This article analyses the practice of banks selling complex life insurance products to their customers, particularly those unwary ones who have some money and are looking to keep it in a low-risk instrument.
The received wisdom is that a fixed deposit (FD) placed with a big-name bank is probably the safest investment next to government bonds. The foundation of the bank-customer relationship is trust. Now, there is a serious issue with the way some of these banks, mainly the private sector marquee names, misuse the trust placed in them by their customers. In our country, this is more so since the financial literacy of an average bank depositor is very basic, if any, and there is an implicit belief that the bank will do what is best for the customer.
Several instances of banks ‘diverting’ funds of their unwary customers have come to light over the past years. This diversion follows a set pattern. An unwary bank customer comes into some funds, possibly a few lakh rupees, as retirement money or on sale of an asset. The customer then goes to her high street bank and says that she would like to place this in a FD. The ‘relationship manager’ swoops in. This ‘banker’ informs the customer that interest rates on the FDs being what they are, they have a better product that will give them a higher return and provide other attractive benefits.
The relationship manager then offers the customer an investment product, which also combines life insurance. The aspect that is played up is that the customer has to pay a lump sum as premium now and at the end of five or 10 years, the customer will receive a guaranteed multiple of this amount as maturity proceeds. This guaranteed amount seemingly provides a far higher rate of return over a conventional FD, ranging between 10% and 12% per annum as against 6% or thereabouts on a five-year FD in the current environment. The icing offered on the cake is the life insurance benefit attached to the product, which incidentally helps this product qualify as ‘insurance’. The maturity amount is also the sum insured in case of death of the insured during the policy period.
This icing on the cake is actually a poisoned chalice. Sometimes multiple policies are sold, taking away the entire funds of the customer as premiums.
After eleven months, when the customer receives a premium payment notice, she realises that she has no more funds left to pay the renewal premium. The bank thereupon very politely points out that the customer had agreed to pay the annual premium and that the policy can lapse if premium is not paid.
The bank may also explain that in certain circumstances, the policy can be cancelled, but the refund amount is far less than the premium actually paid, that too at the insurer’s discretion.
The customer panics and her first reaction is that “I was not told all this at the beginning”. The bank then points out to the customer that the proposal forms the said customer had signed at the inception of the policy and the 30-odd page policy document subsequently issued to her, cover all of this in black and white and the customer has agreed to it.
Moreover, the customer had a 15 or 30-day free look period during. which she could have cancelled the policy and received a full refund, but the customer has not done so.
All protestations of the customer are met with anodyne responses. It may also happen that the ‘relationship manager’ has moved on. While the unfortunate customer has no access to the relationship manager, the bank manager may also have moved on and the higher authorities in the bank stonewall all enquiries behind the smokescreen of terms and conditions.
Of course, the insurance company in question is even more numb, claiming that the distributor, the bank, is responsible for selling the product. In other words, the miss-selling, if any, is on the part of the distributor, not the insurance company.
Why does this happen? The answer lies in the fact that most of the banks are corporate agents of insurance companies, often several companies, both life and general. The commission can be as large as 30% to 35% on a high-premium, investment-linked life insurance product. Thus, if the annual premium is a couple of lakh rupees, the bank ends up netting sixty to seventy thousand rupees as commission on each policy sold. No wonder the banks use high-pressure selling tactics. This is also the reason why the surrender value of the policy in the first few years is so low.
Now, what is most troublesome about the selling tactics of banks is:
1. The customer is not told that there is a minimum payment period. Therefore, the customer does not realise that she is entering into a long-term commitment to pay a hefty amount regularly for a few years.
2. The customer is not explained clearly that if premium payment is not kept up, she will end up losing her entire money, or under certain circumstances, the customer will get back only a small portion of the premium paid by her, entirely at the discretion of the insurance company.
3. The customer is also not informed clearly of her options in case of her inability to keep up the annual premiums. Policy becoming ‘paid up’ is too complex for a customer to understand.
The foregoing scenario is based on real-life cases. The only redeeming feature of such instruments is the ‘death benefit’ necessary for the product to qualify as life insurance.
Policy documents run into 20-30 pages and are densely packed with legalese. For example, what happens to your money if you are not able to keep up with premium payments? Depending on the level of your awareness and the empathy of the sales channel concerned, the policy can either lapse, become paid up, or be ‘surrendered’.
It is interesting to see how these are explained in the policy document:
Surrender Value: GSV (gross surrender value) 11 clauses and sub-clauses, 57 words. “…the minimum GSV shall be the GSV of total premium paid where GSV shall be determined as the applicable GSV factors on total premiums paid at the time of surrender multiplied to the Total Premiums Paid to the date…”
Similar wordings are used to describe other consequences such as lapsed policy, paid-up policy, reduced paid up policy, and surrendered policy. A Mensa challenge for the lay reader!
The feature common to these products is that in the event of cancellation for reasons acceptable to the insurance company, the return of premium during the first five years of the policy ranges from 30% to 70% of the premia paid, depending on the period the policy was in force.
The main issue is that unless the policyholder keeps up the premium payment for the stipulated period, her invested amount is at risk. How does it compare with the standard FD, where the principal amount is not at risk unless the bank fails?
Moreover, in an emergency, the customer has no access to the funds for the first few years of the policy. Unless the policyholder dies early enough during the policy period, the ‘survival benefit’ is actually a survival rip-off!
The most insidious feature is that such products are generally sold to older customers who are retired or close to retirement and trust their bank implicitly.
A very successful life insurance marketing leader told this writer that individual agents do not usually venture to sell such investment-linked products since once the customer realises the downside, she will come looking for the agent, possibly with a gun in her hands!
Banks are better equipped to play in this space since there is no single individual answerable for any mis-selling.
In another case known to this writer, when the concerned bank customer threatened to take regulatory or legal action against the bank and its representatives, the ‘relationship manager’ offered to make good – from his personal funds - the entire premium paid under such policies running into several lakh rupees.
This readiness of the bank officials to refund the large sum involved from their own pockets clearly shows that a racket was flourishing across the bank at multiple levels!
A senior financial journalist, who is also an activist, describes this as a standard scam — there are literally millions of people who have been cheated in exactly this manner. They mainly target senior citizens, who are living away from their families.
One of the earliest cases this journalist had to take up with an insurance company pertained to a high-flying fund manager whose just-retired mother and 80-year-old grandmother were scammed. In another instance, one of her friend’s father and his brother - both in their mid-80s were scammed to the tune of Rs88 lakh and over Rs1 crore, respectively!
Her lament is that our legal system is expensive and broken. Her suggested remedy is that if a few of the affected customers are willing to sit with lawyers, a PIL with high power representation may be possible.
While this may come to pass soon enough, the regulators, both banking and insurance, need to acknowledge that banks selling investment products in the guise of life insurance entail an inevitable conflict of interest.
In reality, their methods are tantamount to miss-selling, which can be defined as selling a product which the customer hasn’t understood, doesn’t need, and can’t afford to pay for in the long run. As a result, many first-time buyers fail to keep up premium payments, thus foregoing their already paid money.
The extent of miss-selling becomes evident if one looks at an Insurance Regulatory and Development Authority of India (IRDAI) mandated disclosures.
This is form L-22, which is a part of the financial statements of life insurance companies. Form L-22 discloses the ‘persistency ratio’ of the policies issued by the insurer. This ratio shows the continuation of new policies sold in any given year over the following five years. That is, how many policies remain in force where policyholders are regularly paying the premium.
A sample of these numbers tells the story. In case, of an insurer promoted by a bank, the persistency ratio on premium basis was 73% in the 13th month (that is, after one year) declining to 18% in 61st month (that is, after five years) whereas on the number of policies basis it was 64% in the 11th month declining to 23% in 61st month.
These numbers vary for different companies depending on their size and distribution channels; suffice is to say that on average, persistency ratio drops to around 50% both on premium basis and number of policies basis in the 61st month.
What this means is that nearly half the policyholders have had the premium already paid by them confiscated (lapsation) or blocked (paid up). This is a clear evidence of the extent of mis-selling going on.
As the drilled-down persistency numbers for each sales channel (banks, brokers, individual agents, direct) are not available publicly, it stands to reason that a detailed analysis will tell the regulators enough about the extent of mis-selling prevalent in different channels.
Sadly, private sector life insurance companies have been leaders in mis-selling during the first few years of insurance liberalisation. It is an established fact that quite a few private sector life insurance companies made ‘profits’ in the initial years of their operations from lapsed insurance policies until the regulations governing lapsation and appropriation of funds were further tightened.
What the banking and insurance regulators can jointly do is this: firstly, and most importantly, banks should not be allowed to sell investment-linked insurance policies. Banks should only be allowed to sell term life policies, if at all.
Secondly, life insurance companies should be required to show clearly the risk premium charged for death benefit under such policies, separately from the investment part of the premium.
Thirdly, the bank being directly instrumental in selling the product, should be mandated to disclose the commission income to the customer.
Fourthly, there should be a short, easy to understand summary of the downsides in plain English (for example “your investment is at risk if you fail to keep up premium payments”) or the regional language.
The last and most important thing is those persistency ratios should be analysed channel-wise by IRDAI and channels with lower persistency ratios should be questioned about their customer base and selling strategies.
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(Shrirang Samant has worked in senior leadership roles in the general insurance industry, both in public and private sectors, in India and abroad. He has been privy to the transition of this industry from public to private sector in the country and was the founding CEO of a multinational insurance joint venture- JV in India.)