From April 1, life, general and health insurance companies will have the flexibility to pay commissions to agents as per their board-approved policies.
However, they will have to ensure that they do not breach the overall expenses of management (EoM) ceiling that they have to adhere to. EoM, which is computed as a percentage of premiums collected, includes commissions and other expenses such as technology spends, employee costs, administrative expenses and so on.
As per an IRDAI notification issued on March 28, expenses of management of general insurers cannot exceed 30 percent of gross premium written in India in a financial year. In case of standalone health insurers, this ceiling is slightly higher at 35 percent.
This excludes expenses related to the rural sector, Pradhan Mantri Suraksha Bima Yojana, Pradhan Mantri Fasal Bima Yojana and costs incurred towards insurtech and insurance awareness initiatives.
More flexibility to insurers
After proposing a 20 percent cap on first-year life insurance commissions in August last year, the Insurance Regulatory and Development Authority of India (IRDAI) relented and relaxed the draft rules in November to allow more flexibility to insurers. At present, the cap on first-year commissions is 35 percent of the premiums.
Greater flexibility to insurance companies could mean that commissions will not come down substantially, as was expected when IRDAI first framed draft rules on commission revisions. However, the mandate to stick to the overall EoM ceiling could still work in favour of policyholders, as the commissions—and rewards—will have to be subsumed into EoM.
According to the notification, insurers will have ensure that their payment of commissions policy is in the interest of policyholders and agents, and increases insurance penetration in the country and “brings cost efficiencies.”
High commissions’ role in mis-selling
Commission payouts in the insurance sector are high, especially when compared to other financial sector segments such as mutual funds where expense ratios have been trending downwards.
Higher commissions are seen as the key reason why the mis-selling menace in life insurance persists. Intermediaries often sell unsuitable life insurance products to gullible investors looking to make tax-saving investments at the last minute or senior citizens who may not be financially savvy. For instance, senior citizens end up buying unit-linked insurance policies (Ulips) and long-tenure traditional endowment policies without realising their advanced age could eat into potential returns.
Also, agents tend to get customers to churn policies in the initial years in order to earn higher first-year commissions. As a result, such policyholders end up shelling out steep surrender charges (penal charges for early exit, in simple terms) in the initial years.