You must read this if you have a traditional LIC policy, the one that gives bonuses every year.
LIC has sold more than 25 crore policies till date, and it is very likely that you as well, have a policy. What is also likely is that your policy is a traditional life insurance policy, because it is the most predominant type sold by LIC agents. For whatever reason you bought it, what is also probable is that you are looking to find out what are the returns you get from a traditional LIC life insurance policy. This article explains exactly that – the kind of bonuses that you get in a traditional LIC life insurance policy and how they all add up to give you returns.
Please note these points before you read further.
- We are not calculating returns in the case of death, in this example. Only in the case of policy end (maturity).
- Traditional policies here mean those which give returns and are not Unit-Linked. You get bonuses every year (but they get accrued and are not paid out every year) and finally all the bonuses are paid out when the policy matures.
- There are variants in traditional policies. Money-back traditional policies work similar to the example here, but additionally give payout in between in fixed intervals. Whole life policies have yet another payout on death as well.
- This is applicable for traditional policies of all life insurance companies, not just LIC of India.
Here is an example to explain the types of bonuses declared for traditional life insurance policies.
Let us assume that Prakash, a 25-year old male from Gurgaon bought a traditional life insurance policy from LIC. His agent told him that he needs to pay Rs. 26,774 every year for 16 years. The policy has a life insurance cover of Rs. 5 lakhs and is valid for 25 years. Let us look at the benefits he will get. (Please note that this is a hypothetical case and the real benefits will depend on what exactly are the features in the real policy.)
There are commonly 3 kinds of ways in which a traditional policy can benefit you. Depending on the policy itself, you may get any combination of these benefits. Check your policy document to know which ones are applicable.
1. Guaranteed Additions : If your policy is eligible for Guaranteed Additions, you will know when you buy it. It is mentioned in the policy document itself. It is absolutely guaranteed and you can calculate the benefit right in the beginning of the policy period. It is given not for every policy year, but only for the first few years of the policy.
GA is declared as a number or % of Sum Assured. In our example above, it GA of 3.5% of Sum Assured payable for first 4 years, then you would get Rs. 5,00,000 x 3.5% = Rs. 17,500 for the first 4 years of the policy.
Remember that while GA is computed and pre-declared, you don’t really ‘get’ it, i.e. it does not come to you as a cheque or go into your bank account. It just stays with LIC in your policy account. It is then paid to you when the policy matures. Important to note here that this amount does not grow. So the bonus that you get for the year is exactly the amount that is declared without earning any interest whatsoever.
Refer to the image below. GA is shown are red arrows for the first few years. But notice that it is paid out only at maturity (or at death if that happens before policy maturity).
2. Bonus (or Simple Reversionary Bonus) : LIC deposits your premium money into Govt. bonds of varying guaranteed interest rates. Depending on the combination of interest rates, LIC declares a bonus for each year for each kind of policy and depending on the term of the policy. Like Guaranteed Additions, bonus is declared not as a % of your premium but as a rate on your Sum Assured. Say, in our example, LIC may declare a bonus of Rs. 45 per Rs. 1,000 Sum Assured for the year. That simply means that you will get Rs. 45 x (Rs. 5,00,000 / Rs. 1,000), i.e. Rs. 45 x 500 = Rs. 22,500 as bonus. This amount could be Rs. 48 per Rs. 1,000 Sum Assured, for the next year, which translates to a bonus of Rs. 24,500. And so on for each year.
Bonus is generally paid on all traditional policies of life insurance companies, including LIC. It is shown as blue arrows and is declared every year. Bonus is also accrued and not paid immediately. Once declared that amount is guaranteed, but it does not grow till maturity – it is a fixed amount and paid at policy maturity.
3. Loyalty Addition or Loyalty Bonus or Terminal Bonus or Final Additional Bonus or Final Maturity Bonus : As mentioned in point 2 above, LIC keeps declaring a bonus and once declared, that amount is guaranteed. But sometimes, the returns from the investments are higher that what is declared – in such cases, LIC shares the additional gains in the form of Loyalty Addition. It is applicable only in the final year of the policy and is based on your policy, term and the year. Generally, higher policy term will have higher Loyalty Addition.
In our example, Loyalty Addition of, say, Rs. 55 per Rs. ‘000 Sum Assured would mean a one-time amount of Rs. 55 x (Rs. 5,00,000 / Rs. 1,000), i.e. Rs. 55 x 500 = Rs. 27,500.
Loyalty Addition is depicted as a single blue arrow in the figure above. It is paid to you on maturity of the policy along with all other benefits such as Sum Assured, Guaranteed Additions and Bonuses for each year.
So here’s a summary for a possible traditional policy.
There is a gross return of 4.95% on the policy above. When you calculate this for your own policy, remember to check if GA, Bonus and Loyalty Additions are all applicable or not.
For all life insurance companies, the rate of return from a traditional life insurance policy is generally low, however you can rest assured that your premium money is 100% safe since these policies can invest their money only in secure Govt. bonds and Govt. Securities. They cannot invest it in the stock market. Hence returns are generally in the range of 4.5% – 7% net of tax, which for many may not look satisfactory. Of course, there is the life insurance cover that is associated with such a policy, but the cover itself is generally about 10-20 times the premium, which is obviously not adequate. For life insurance cover, we recommend only term insurance plans.
All in all, traditional policies like these are recommended only for those who need to be pushed for discipline in their savings, and not for the others.