Life Insurance Finance
Life Insurance Finance
This domain tests how a life insurer is financed and valued: premium components, reserves, surplus, bonus, investments, reinsurance and taxation. Expect calculations and questions on who bears investment and mortality risk.
Core rules
- Premium: a level premium has a risk element, an expense element and a savings element. Because mortality rises with age, the excess of early premiums over early risk cost builds the mathematical reserve.
- Reserves and valuation: the actuary values future liabilities using prescribed assumptions. Surplus is the excess of assets over liabilities and reserves; it is not simply premium minus claims.
- Bonus: in participating business, surplus is distributed as bonus. Simple reversionary bonus is declared per ₹1,000 of sum assured and attaches to the policy; terminal bonus may be added at maturity or claim. Bonus is not guaranteed unless the product says so.
- Investments: IRDAI investment regulations require safety, liquidity and yield, with limits by asset class and ALM matching of assets to liabilities.
- Reinsurance: the insurer retains part of the risk and cedes the excess, protecting solvency; the policyholder's contract remains with the original insurer.
Worked example
A participating policy has a sum assured of ₹5,00,000. A simple reversionary bonus of ₹40 per ₹1,000 sum assured is declared for 20 years. Bonus = (5,00,000/1,000) × 40 × 20 = 500 × 40 × 20 = ₹4,00,000. At maturity, the policyholder receives ₹5,00,000 + ₹4,00,000 = ₹9,00,000, plus any terminal bonus. The reasoning: simple bonus is calculated on the original sum assured each year, not on the accumulating bonus.
Traps that cost marks
- Calculating compound bonus when the product uses simple reversionary bonus.
- Treating the reserve as money belonging to shareholders.
- Assuming all investment income is distributable surplus.
- Believing reinsurance changes the policyholder's claim against the original insurer.