How built-in safeguards in insurance help

About seven years ago, a 65-year-old gentleman visited me. After paying premium for eight years, he had been informed that his medical insurance would not be renewed. Despite having read the contract, he missed noticing the clause that restricted the maximum age to 65. Now, given his worsening hypertension, the man feared that no insurer would cover him.

There are two distinct approaches to writing laws for financial products. The democratic way is to put out detailed disclosures and then leave customers to make their choices. The other, more authoritarian, route is to build safeguards into the law such that even if a financially illiterate person (an overwhelming majority) were to buy the insurance, they would be okay. Any law is a mix of these two approaches. But most often I see the mandatory safeguards are more effective than disclosures.

Health insurance has some excellent safeguards. All health covers now must be renewable lifelong. The gentleman I wrote about, now 72, would still have had his original health insurance if this legislation had come in earlier. The law also stipulates that the premium you pay should be in line with the entire class of people your age. Insurers are not allowed to charge you a different rate just because you have made a claim. These two features, put together, make it imperative that you buy insurance early on, when you are healthy, and then hold on to it for life.

The law, in 2013, standardised the definitions of several exclusions and diseases. All insurers now follow these defined terms such as pre-existing diseases, cancer, room rent and hospitals. Previously, for example, pre-existing diseases were interpreted in many ways. Some said that the policyholder should have been aware of the disease, others that awareness was not necessary; the time of pre-existing symptoms also varied widely. With the current safeguard, even if you do not read the contract, a minimum standard will be adhered to.

The law now excludes health insurance from the principle of contribution. This contribution clause stipulates that if you have multiple insurances then each insurer must pay their proportionate share of a claim. This sometimes led to delayed payments and disputes. For example, one insurer would accept the claim and the other might reject. Or in cases of cashless claims, there would be disputes about which insurer should pay first and up to what limit. Today, you can decide which insurer to approach and they will have to pay the entire amount, subject to their insurance’s sum assured limits.

Previously, claims had to be submitted within a certain number of days, typically 30 to 60. The restriction still holds but regulations ask insurers to condone delays if there is a reasonable cause.

Life insurance also has many safeguards. The only exclusion allowed is suicide in the first policy year. Claims cannot be repudiated after the insurance has been in force for three years. These conditions effectively shift the responsibility of identifying issues of misrepresentation or non-disclosure to the insurer and set a time limit for such discovery.

In unit-liked insurance plans (Ulips), the yield reduction allowed is capped. In these products, you decide which assets to invest in. The yield-reduction cap limits the charges in your insurance and assures that the returns you get are in line with the underlying assets. An insurer cannot pay excessive commissions or charge you high fees because that will breach the reduction in yield allowed. Another excellent safeguard is that there cannot be a surrender charge if you close your insurance after five years. This benefit goes together with the restriction that you cannot withdraw money in the first five years. So, the law forces you to take at least a five-year outlook when you invest in a Ulip.

Life and health insurance allow a free-look period of 15 to 30 days to return your insurance, if not satisfied. Similarly, a 30-day renewal grace period is in-built so that you don’t lose continuity benefits if you miss renewal but pay within 30 days of the due date.

There are some areas where safeguards can be improved. Traditional participating endowments, the largest selling life insurance, should have limits on charges and surrender costs similar to Ulips. Some definitions need to be clarified. For example, exclusions due to substance abuse should be made more specific. The difference between external and internal congenital diseases causes confusion. The concepts of free-look period and 30-day grace period should be extended to more individual insurances such as property and liability.

There is a silver lining to the story about the man who lost his insurance at 65. The market has developed so much over the past few years that he has been able to buy, even with his hypertension, a new and better insurance with a higher sum assured. This time, all the safeguards have been automatically built in.livemint