Some of the top life insurance companies in India are still using the traditional channel of ‘agency network’ to distribute their products. India’s largest life insurer, LIC, extensively relies on its network of corporate agents to sell its products to customers. In exchange for their services, agents earn a commission from the company. The level of commission earned by an agent may vary depending upon the products sold. While many agents provide a valuable service in helping customers find the right products, there are cases of agents deliberately mis-selling products just to earn high upfront commissions.
The commission earned by life insurance agents vary based on the products being sold. Traditional products typically have a high percentage of commissions. Certain products provide commissions up to 35% to 40% of the first year premium. In most products, insurers have the practice of offering a high commission during the first year and a considerably lower percentage in the subsequent years. This is mainly done to encourage agents to acquire more first-time buyers.
Sometimes, agents encourage their customers to buy new policies every year rather than continuing with their existing one. They do this mainly to earn the high upfront commission from new policies. For instance, LIC offers a commission of 25% of the first-year premium for endowment policies. However, for the second year commission, this drops drastically to just 7.5%. This means that agents make a lot of money from first-year premiums compared to subsequent premiums. Hence, to sustain their high income level, agents have to sign up customers for new policies. This is considered to be one of the major reasons why mis-selling happens in the life insurance industry.
The Insurance Regulatory and Development Authority of India (IRDAI) is currently evaluating the possibility of imposing level commissions on life insurance policies. Through this way, agents will receive uniform commissions throughout the course of the policy term. It is expected that this practice will improve the persistency ratio of life insurance covers. Persistency ratio refers to the percentage of policies kept active by customers without letting it lapse. While this type of commission payment is yet to come into effect, it is expected that level commissions will help reduce mis-selling of life insurance products. It is worth noting that level commissions are already in effect for various health and motor insurance products.
When a policyholder exits a policy in favour of another policy, it always comes with a price. If your policy has a high upfront commission, it is likely that its surrender value will be considerably low. For instance, if the insured surrenders his/her policy after three years, it is possible to recover only 30% of the premiums paid. In subsequent years, this percentage is likely to increase. However, the surrender value will still exclude the commissions paid to agents. In other words, the cost of exiting a policy is always borne by the policyholder rather than the company or the agent. Before you think of exiting a policy in favour of another, it is worth considering the surrender value before making the final decision.
Considering all these factors, policyholders must be wary of life insurance covers that offer high upfront commissions to agents. With the amount of information available online, many people nowadays prefer to buy insurance covers directly from the companies. However, if you are not sure about what type of policy to buy, you may consult a finance expert or an agent to explore the best options available for you.
Also, it is worth noting that term covers are still the best form of life insurance and they come with an extremely affordable price tag. Moreover, it is possible to save a lot of money on commissions when you buy term insurance plans. Even if you are using the service of an agent to buy a term policy, the overall commission amount is minimal compared to endowment policies or ULIPs. The best thing you can do here is buy a term policy for insurance purposes and invest in mutual funds to generate returns. Mutual funds also have a level commission, which is based on your overall net asset value.
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