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Surrendering the insurance policy means exiting from the insurance policy before the maturity.  It is the voluntary termination of the insurance contract by the policyholder. But what does it mean to surrender a policy? How to surrender a policy?  In our article on Discontinue Life Insurance Policy: Surrender,Paid Up,Loan we discussed the various options available to an insurance policy holder if (s)he wants to discontinue the policy.

  • Let the Policy Lapse
  • Surrender the Policy
  • Make the Policy Paid up
  • Take loan against the policy

We also gave an overview of Surrendering the insurance policy. In this article we shall discuss in detail about surrendering the policy, tax implications of surrendering the policy, calculating the surrendering value, how to surrender a policy.

Overview of Surrendering the Insurance Policy

Surrendering the policy means exiting from the policy before the maturity. It is the voluntary termination of the insurance contract by the policyholder before the maturity or premature encashment of the life insurance policy.  On surrendering a policy:

  • The life cover or protection ends.
  • The tax benefit, if availed of on the premium paid till then,may be reversed if surrendered before premium has been paid for two years and 5 years for ULIP products after the date of commencement of policy.
  • On surrendering before the maturity date the cash value that you receive  is called the surrender value of a policy.
  • Policies usually acquire a surrender value after premiums have been paid for three years.
  • If any extra premium is paid towards riders such as Accident benefit etc, it is usually excluded.
  • The surrender value is calculated by the insurance company depending upon the time for which the policy was in effect (the age of the policy), the total duration of the policy, the premiums paid and any bonus accrued.
  • If the policy is in its initial stages (3-4 years old) the surrender value is only about 30% of the premiums paid plus any bonuses that may have accrued till then.   The closer you are to the maturity date of your policy, the higher is the amount you get when you exit. Towards the end of its term, this can be as high as 80% of the premium.  Even after three years, during the early stages of policy the surrender value is just a fraction of the total premiums paid.

Tax implications of Surrendering a Policy

Tax benefits on buying  a life insurance policies come are: deductions under 80C section and tax benefit on benefits received under section 10(10D) . Tax treatment of policy on maturity or death of policyholder, on receipt of surrender or paid-up value, is similar. From our article Life Insurance

  • Benefit is available to Individual assessee and Hindu Undivided Family assessee.
    • In case of individual assessee – Himself/herself, spouse, children of such individual
    • In case of HUF assessee – any member of HUF.
  • For insurance policies issued before 01 Apr 20013 to on or after April 01 2012, deduction under 80C is allowed for only so much of the premium payable as does not exceed 10% of the actual capital sum assured. Before Apr 1 2012 the limit was 20% of sum assured.
  • Insurance products give you deduction of up to Rs 1,00,000 from taxable income under 80 C, subject to the life cover being at least five times the premium. If it is less than the minimum, the amount that can be claimed under Section 80 C for tax savings reduces appropriately. For example, if you take a single premium insurance policy with life cover of 1.25 times, then the amount claimed under 80 C will be only R 25,000 for Rs 1,00,000 premium paid. Ref:YourOwnAdviser
  • Premiums paid towards a life insurance policy qualify for tax deductions under Section 80C, with a limit of 1 lakh in a financial year, is restricted to 20% of  the sum assured of the life insurance policy.
  • Under Section 10(10D), any amount received under a life insurance policy,from the maturity or claims on a life insurance policy, including bonus, is not taxable provided some conditions are met.
  • For policies bought before 1 Apr 2012, The proceeds from the maturity or claims on a life insurance policy were exempt under Section 10(10D) if the premium was not more than 20% of the sum assured or the sum assured was at least five times the premium paid.
  • For policy bought after April 1, 2012 the sum assured needs to be at least 10 times the premiums paid,
  • For policies whose premium is greater than 10% of Sum Assured getting money on maturity or even surrendering them early means you will be subject to tax on whatever you receive.

Let’s try to understand these conditions by example for deductions under section 80C.

For a sum assured of Rs. 10 lakh, the maximum premium that one can pay to claim deduction for policy bought after 1 Apr 2012 under section 80C is 10% of Sum Assured i.e Rs. 1 lakh.

Mr. Mehta takes life insurance plan with Sum Assured of Rs 2 lakh before 1 Apr 2012 . The maximum premium benefit he can avail is 20% of 2 lakh i.e Rs 40,000. If he pays premium of Rs 50,000 only Rs 40,000 will be considered. So one should always take Sum Assured as 5 times the annual premium to fulfill the 20% condition.

Mr. Khanna takes life insurance plan with Sum Assured of Rs 2 lakh after 1 Apr 2012 . The maximum premium benefit he can avail is 10% of 2 lakh i.e Rs 20,000. If he pays premium of Rs 50,000 only Rs 20,000 will be considered.

For tax benefit under section 10(10D)

Mr Khan pays 1 lakh of premium per year for a policy with Rs. 5 lakh sum assured bought after 1 Apr 2012, so premium is greater than 10% of Sum Assured (50,000) .

  • Three years later,he would have paid Rs 3 lakhs.
  • Let’s say when he surrenders after 3 years its surrender value is Rs 3.5 lakhs.  As his annual premium was greater than 10% of  Sum Assured so benefit received is taxable.
  • So, 3.5 lakhs is added to his income and he would need to  pay upto Rs 1.05 lakhs as tax (if  in the 30% bracket).
  • His investment: Rs 3 lakhs.  His return: Rs 2.45 lakhs

Reversal of  80C benefits : According to 80C rules, tax savings on traditional life insurance plans will have to be reversed if :

  • you do not keep single premium policy in force for two years after the date of commencement of the policy OR
  • regular premium policy premiums are not paid for two years.

For ULIPS it’s 5 years. The amount of deduction allowed under Section 80C in earlier years shall be deemed to be income of the customer and (s)he will be liable to tax in the year of surrender of policy. So if you do not pay any additional premium after buying a regular premium policy, not only do you not get any surrender value, you will also have to reverse the Section 80C tax savings you have taken. It will be a double whammy for you!

Calculating the Surrender Value

The surrender value factor is a percentage of paid-up value plus bonus. It is zero for the first three years and keeps rising from third year onwards. It differs from company to company and depends on various factors. There are two types of surrender value

  • Guaranteed surrender value and
  • Special/cash surrender value

While the guaranteed value is easy to calculate and is mentioned in the product brochure and the policy bond, the special surrender value is calculated only after the policyholder puts in the surrender request. Different companies use different approaches to arrive at the Special/cash surrender value. Usually, the calculation takes into consideration factors such as completed policy years, policy type and time to maturity, with-profit fund performance in case of participating policies, besides the company’s customer philosophy and industry practice.

Guaranteed Surrender Value (GSV)

As per the Insurance Act 1938, after three premium payments, the GSV works out to 30% of the premiums paid minus first year premium.

  •  You are eligible to receive this if you have paid premium for at least three years.
  • It is 30 per cent of the basic premiums paid, excluding the first year premium.
  • Additional premium for riders such as accidental death benefit is excluded.

Please Note Usually the first year premium is not counted. For example, if you are paying a annual premium of Rs 20,000 then in the 5th year,

  • The premium paid = 20,000 * 5 i.e 1,00,000.
  • Premium without the first year = 20,000* 4=80,000.
  • Minimum surrender value is 30% of 80,000 which is  Rs 24,000.

If you have paid Rs 75,000 (Rs 25,000 annually for sum assured of Rs 5,00,000) in the first three years, the minimum you will get is 30 per cent of Rs 50,000 (total premium paid minus first-year premium), that is, Rs 15,000.

This does not include the bonus that you may have received from the insurer. If your policy pays bonus, which you accrue during its term, the amount you will receive on premature closure (surrender) of the policy will be the special surrender value. 

Special or Cash Surrender Value (SSV)

If you stop paying premium after a specified period, your policy will continue but with lower sum assured. This reduced sum assured is called paid-up value or paid-up sum assuredSpecial surrender value is arrived at by multiplying the total paid-up value (paid-up value + bonus) with a multiplier called the surrender value factor.  The surrender value depends on a factor (known as surrender value factor!) and it depends on the age of the policy and bonuses offered and is heavily insurer dependentNot all companies declare the surrender value factor in the product brochure or on their website.

Paid Up Value = Original sum assured * (Number of premiums paid / Total number of premiums that were required to be paid) 

Total Paid Value = Paid Up Value + bonus.

Special surrender value = { Sum Assured * (Number of Premiums Paid/Total Number of Premiums Payable) + Bonus } *  Surrender Value Factor.

 = (Total Paid Value)Surrender Value Factor

Example: The paid-up value as Rs 75,000. Assuming that the bonus is Rs 60,000 and the surrender value factor in the 3rd year is 27.76 per cent, then

the special surrender value = 27.76 per cent (Rs 75,000+Rs 60,000) = Rs 34,476.

Example:  Mr. A has taken an Endowment policy of 30 years term  for Sum Assured of 2 lakhs and has paid premium till  25 years. Now he wants to know how much is the surrender value. First let us find out the Paid up value and bonus.

  • Paid up value = [25 * 2,00,000/ 30]
  • Bonus is given from the bonus chart of LIC for 25 years Endowment plan which in this case 1583 per 1000 of Sum Assured. As Sum Assured is 2 lakh (2,00,000) Bonus would be  1583 * 2,00,000/1000
  • Total Paid Up Value = [ 1583 * 2,00,000/1000] = [ 166667 + 316600]=4,83,267
  • SURRENDER VALUE = Surrender value factor * Paid up value /100. Assuming a surrender value factor from LIC chart is 65.84
  • Surrender value = 65.84 * 4,83,267 / 100 = 3,18,183

Loan Value = 90% of Surrender Value (approximate) In above case you can get loan of up 90% of 3,18,183 = 2,86,365

Example: if a policyholder takes LIC’s endowment plan for 20 years with SA of Rs 1 lakh, for premium  Rs4,881 pa. (Ref MoneyLife: Surrendering Life Insurance Policy, think again)

  • After four premium payments, the policyholder would have paid premium of Rs 19,524 (4881 * 4).
  • Guaranteed Surrender Value (30% of premiums excluding the first year) =( 30* 4881*3)/100 = 4,392.9
  • In this example, the GSV is Rs 7,910, even though, going by the actual policy wording the GSV is only Rs4,392. What explains the difference between Rs7,910 and Rs4,392? It is the cash value of existing vested bonus (partial bonus).
  • The SSV offered by LIC is Rs 9,099

The customer gets the higher of SSV or GSV. Moreover, the longer you stay with the policy, the higher is the amount of partial bonus added. It means your GSV as well as SSV will start looking better when you stay for a longer period with the policy. Surrender Value Factor of LIC polices is given below. Click on image to enlarge. (Ref: Source for LIC surrender value factors (pdf file))

LIC surrender value factor

LIC surrender value factor

Using these IIT M Prof,Pattabiraman M who runs Free Personal Finance Calculators, has written an excel  Insurance Policy Surrender Value & Paid-up Value Calculator. Try it to get an idea of surrender value

Bonus Rates

When Life Insurance companies make profits and share the profits with their policyholders they do so by calling it a Bonus. It’s mainly the traditional insurance policies like the endowment policy, whole life insurance policy and money back plan that are eligible for bonus. Each type of Traditional Policy has 2 versions, namely the

  • Participating Insurance Policy or Policy with Profit
  • Non-participating Insurance Policy or Policy without Profit

Participating insurance policy means that this particular policy will participate in the profits of the insurance company. And hence only the Participating polices receive bonus and the Non-participating do not. Of course, the premiums for participating policy are higher than the non-participating policy for a similar coverage and same customer criteria. The policyholder will have to choose whether he wishes to have a Participating Policy or a non-participating one, right at the inception of the policy.

The bonuses are declared regularly and paid at the end (at the time of claim) are called reversionary bonuses. They are declared as a percentage rate, which applies to the sum assured of the policy, in respect of the basic policy benefit. There are other bonuses  like Terminal bonus (paid at maturity or at the time of claim)

There is no standard rate for the bonus of any particular company. The bonus rate varies from company to company and from year to year. The bonus rate varies from product to product, and also varies with Terminal Bonus, Final Addition Bonus, etc. Hence there can be no set formula for calculating bonus. It is only calculated after it is declared.

It is declared like Rs 70 per thousand Sum Assured(PTSA). That is, if your Sum Assured is Rs 5 lakhs, then the bonus that you would receive is 70/1000 X 500000, i.e. Rs 35000 for that particular year.

LIC’s webpage for Bonus Information,  LIC’s Bonus rates for 2010-11 (pdf)  ICICIPrudential Bonus , HDFCLife Bonus From Basunivesh LIC’s Bonus rates for 2012-13 and comparison (Click on image to enlarge)

LIC bonus rates

LIC bonus rates.

 How to surrender a policy

Each insurer has his own guidelines, so please check with your insurer. There is not much information on surrendering a policy. Some information that we found are SBILife download centre SBI Life Surrender/Partial Withdrawal Application Form(pdf), Surrender Checklist(pdf). Documents usually required to surrender life insurance policy are.

  • Policy surrender form
  • Policy bond (Original life insurance policy document)
  • A self-attested copy of your ID proof
  • Any cancelled cheque/bank attested bank statement/bank attested passbook copy.
  • One rupee revenue stamp to be put on the policy surrender form.

These documents need to be submitted at the branch office. For LIC you need to submit at the home branch office (the branch which issued your policy).  What happens after the surrender request or how much time it takes – not much information From  BajajAlliance Support Centre for Surrender of Policy

After the surrender request is submitted the customer gets a confirmation call for the payout. If the customer prefers a cheque payout, the process takes 8-10 days.  If the customer prefers a direct credit payout, the process takes 7-8 days(Ref).

Surrendering LIC policy

LIC website does not have information or form for surrendering LIC policy(though LIC website has section called download Form). Quoting from LIChelpline LIC Surrender Form

Any Traditional policy of LIC OF INDIA can be surrendered only after 3 years from  Date of Commencement (DOC) of the LIC POLICY. In order to surrender the LIC POLICY, the LIC POLICYHOLDER needed to submit the surrender form duly signed by the POLICYHOLDER on the 1st and 2nd page( sign on the 2nd page should be across the revenue stamp) along with the LIC POLICY BOND at the home branch.

Please note these documents need to be submitted at the LIC Branch Office from where your policy was issued (you cannot submit them at any other branch office). LIC sends the amount by cheque.  How to surrender LIC ULIP policy

Searching on the internet led us to two types of  Form  Delhi Division -III(form in both Hindi and English Surrender Form; Form no 5074 & 3510.(pdf)) and Bangalore Division(Only english Policy wala)

Related Articles:

In this article we discussed about surrendering traditional life insurance polices,Tax implications of Surrendering a Policy,calculating surrender value. Have you surrendered a life insurance policy? If yes Why did you surrender it? How easy or difficult was the process? Please share your feedback,comment.

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