Loan, surrender or paid-up: a policyholder needs ₹35,000 and three options on the table
Mr. Deepak took a 20-year endowment policy with a sum assured of ₹8,00,000 on 10 June 2018, with an annual premium of ₹40,000 payable annually. He paid six premiums from 2018 to 2023, totalling ₹2,40,000. The premium due on 10 June 2024 has not yet been paid, but he is still within the 30-day grace period for the annual mode. On 25 June 2024 he needs ₹35,000 urgently for a medical expense and asks the insurer what his options are. The policy document provides that: the guaranteed surrender value after five years is 30% of premiums paid, excluding the first-year premium and any extra premium; a policy loan may be granted up to 85% of the surrender value at 9.5% simple interest; and if premiums are discontinued after the policy has acquired a surrender value, the policy may be converted into a paid-up policy with a reduced sum assured. Vested bonuses are ₹36,000. The surrender value is to be computed as on 10 June 2024.
1. Compute the guaranteed surrender value, the maximum loan available and the paid-up sum assured.
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Guaranteed surrender value: the formula excludes the first-year premium, so eligible premiums are ₹2,40,000 − ₹40,000 = ₹2,00,000. GSV = 30% × ₹2,00,000 = ₹60,000.
Maximum loan: 85% of the surrender value = 0.85 × ₹60,000 = ₹51,000. The ₹35,000 he needs is comfortably within the loan limit, so no partial surrender is required to meet the immediate need.
Paid-up sum assured: premiums paid ÷ total premiums × sum assured = 6 ÷ 20 × ₹8,00,000 = ₹2,40,000. The paid-up policy would also carry the vested bonuses of ₹36,000, and any future bonuses declared on the reduced sum, and would become payable on the earlier of death or the original maturity date in 2038.
Note the grace period point: if the 2024 premium is not paid by 10 July 2024, the policy lapses and neither a loan nor a surrender may be available without revival first. Any recommendation has to be acted on before that date.
2. Recommend which option best serves Mr. Deepak's need, with reasoning and the cost of each.
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The loan is the best fit. He needs ₹35,000, and the loan gives him that without terminating the contract. The cost is simple interest at 9.5% per year, about ₹3,325 annually on ₹35,000, and the sum assured of ₹8,00,000, the bonuses and the maturity date all remain intact. He can repay the loan at any time and restore the policy to a clean position.
Surrender would produce ₹60,000 in cash, which is more than he needs, but it buys that cash by ending the policy, forfeiting the ₹36,000 of vested bonuses and all future bonuses, and giving up the ₹8,00,000 cover. The economic loss is far larger than the interest on a loan.
Paid-up conversion preserves a reduced cover of ₹2,40,000 and needs no further premiums, but it produces no cash now, so it does not meet the stated need. It is the right answer only if he cannot afford future premiums at all. The sequence should therefore be: take the loan, pay the 2024 premium within the grace period, and use the paid-up option only as a fallback.
3. Suppose he takes a ₹35,000 loan, pays the 2024 premium and dies two years later. How is the claim computed, and what happens if the loan with interest exceeds the surrender value?
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The death claim is the sum assured plus bonuses accrued to the date of death, less the outstanding loan and interest. On the figures given, and assuming no further bonuses for simplicity: loan ₹35,000 plus simple interest at 9.5% for two years (₹35,000 × 0.095 × 2 = ₹6,650), so ₹41,650 is deducted from ₹8,00,000 + bonuses. With only the stated bonus of ₹36,000 the net figure is ₹8,36,000 − ₹41,650 = ₹7,94,350, and any bonuses declared in the two intervening years would be added.
The loan does not reduce the sum assured; it reduces the net amount the nominee receives. If the loan with interest ever equals or exceeds the surrender value, the insurer is entitled under the loan clause to foreclose the policy by applying the surrender value, and the policy then terminates with nothing further payable. That is why insurers monitor loan-to-value ratios and why the loan agreement must warn the policyholder that unpaid interest quietly erodes the death benefit.