It is mid March, and just a fortnight left for the end of the financial year. Mr. A has not been able find time to invest the entire Rs 1 Lakh in section 80 C towards income tax rebate for the year. So, in a hurry to invest and save tax before the due date, he employs the services of Mr. B, an insurance agent who is readily available and more than willing to offer his services and sells him an insurance plan. After a couple of years, Mr. A realizes than the policy is not one of the best ones in the market, has high charges and has given returns below expectations. So he decides to wait till the minimum lock-in period gets over and then surrender it.
Such instances have become common, in many cases it is the agent who comes back to the client with details of a better policy and suggest closure of the old one and re-investing in a new one. Doing so is mainly beneficial to the agent, who sells a new policy to meet his targets and earn more income. Surrendering or fore-closing an insurance policy is disadvantageous to the policy holder in many ways.
- Tax Impact- One of the main attractive features of insurance is that the proceeds, subject to fulfilling of certain basic criteria are tax free under section 10(10D). This is only if the policy is held till maturity. Proceeds from fore-closure are taxable in the hands of the policyholder.
- If you are exiting a ULIP plan and moving into another seemingly more attractive one, please be aware that ULIP policies have huge charges in the initial few years, and the returns get attractive only over time as charges reduce. So, moving the funds into a different policy would mean having to bear these initial charges at both places; and one would have to recover these charges first and break even before even thinking of returns. Also, if the policy is nearing maturity, one might lose out on the bonuses and guaranteed additions which are added towards maturity.
- If the policy has a sizable life cover, fore-closing it could render you under-insured.
- If the policy is a ULIP and one wants to exit because of poor fund performance; it could be because of a downtrend in the stock market, and by exiting, one would not only be incur a loss, but would technically have bought high and sold low.
Hence, one should not think of surrendering one’s policy unless one has a valid reason to do so. If one has a short term cash crunch, for which he or she wishes to surrender the insurance policy, the possibility of taking a short term loan against the policy can be explored. If the regular premiums are getting too difficult to service owing to other unexpected cash outflows, one can consider options like taking a premium holiday or just pay the minimum required premiums to make the policy paid up and then leave the funds to grow over the long term.