The Insurance Regulatory and Development Authority (Irda) feels that its decision to put an overall cap on charges levied in unit-linked policies (Ulip) will not only increase returns on maturity to policyholders but also help improve financial health of life insurance firms.

Irda has capped overall charges to 3 percent of the gross yield in case of Ulips with tenure of 10 years or below and fund management charge shall not exceed 1.5 percent.

Net yield is the return a customer gets on maturity minus charges. In case of policies above 10 years, the cap on total charges is 2.25 percent, of which fund management charges shall not exceed 1.25 percent. The regulator is of the view that life insurers will be forced to work on their expense ratio and control expenses.

“Some six to seven life insurance companies have very high expense ratio and it has been a cause of concern to the regulator. We are hoping that these companies will now have cost control,” said R Kannan, member, actuary, Irda. Expense ratio is the proportion of premium used to pay costs of acquiring, writing and servicing insurance.

Kannan did not name the companies with high expense ratio. According to Irda annual report of 2007-08, average expense ratio of private insurance firms was 23.34 percent against 5.5 percent of LIC.

Irda officials say insurers with high expense ratio will have no choice but to cut down their operational expenses. They will not have enough margins to compensate agents. “Practices like using policyholders money to sponsor trip of agents and sales officer to foreign counties will now stop. If any company wants to reward its employees or agents they can do it with shareholders' fund,” said an Irda official who did not want to be named.

Insurance experts expect life insurers to make a significant cut in commission rates paid to agents to maintain profitability. Commission paid to agents is as high as 40 percent of the premium in the first year.

Experts feel that to maintain the Irda prescription, insurers will have to depend on capacity utilisation and persistency to generate decent profitability.

At present, the overall charge in Ulip is between 2 to 5 percent depending on the tenure of the policy.