Term plans with return of premiums: Count the real cost before you buy | Personal Finance

Term plans that return premiums at maturity are drawing attention as insurers try to address a common objection to pure protection plans: Policyholders feel they receive nothing if they survive the term.

How they work

A term plan with return of premium (TROP) provides life insurance protection during the policy term. If the policyholder dies during this period, the nominee receives the death benefit. If the policyholder survives until maturity, the insurer returns the premiums paid, subject to the policy’s terms and conditions.

Why buyers find them appealing

These plans appeal to a section of buyers who dislike the idea of paying for protection without receiving a maturity benefit. “These plans address the perception that term insurance provides no benefit if the policyholder survives the policy term,” says Asit Rath, chief executive officer (CEO) and managing director (MD), Aviva Life Insurance. 

Perception plays a crucial role in the popularity of these plans. “Buyers perceive that they receive insurance free of cost because the insurer returns the premiums at the end of the tenure,” says Renu Maheshwari, Securities and Exchange Board of India (Sebi)-registered investment adviser, co-founder and principal adviser, Finscholarz Wealth Managers.

The premiums paid may qualify for tax deductions. “A TROP plan may acquire a paid-up or surrender value after a specified period, unlike a regular term plan that usually has no value if discontinued midway,” says Vaibhav Kumar, head — products, e-commerce and enterprise centre of excellence (COE), Axis Max Life Insurance. 

Higher premium 

The biggest drawback is the price. “The TROP premium could be two to three times the pure term premium for the same sum assured and tenure,” says Minoo Mantri, executive vice-president — insurance, Anand Rathi Share and Stock Brokers.

The higher outgo may lead to inadequate coverage. “This could harm a family’s financial well-being if the insured passes away,” says Maheshwari.

TROP plans also lock money into a long-term, low-return product. “The return-of-premium feature typically generates an internal rate of return of about 4.5 per cent to 5.5 per cent on average,” says Maheshwari.

Inflation erodes the real value of premiums returned many years later. “Over 20 to 30 years, the real value of the returned premium may fall to about 20 to 30 per cent of its current value,” says Maheshwari.

Early exit can be costly

Surrendering the policy early usually returns less than the premiums paid. Under the revised framework effective October 1, 2024, policyholders who complete one policy year and pay at least one full year’s premium can receive a special surrender value. Insurers must pay the higher of the guaranteed surrender value and the special surrender value.

“Industry experience suggests that policyholders may receive around 30–35 per cent of premiums paid after three years, 50–65 per cent after five years, and around 80–90 per cent only after 10 or more years, depending on the policy and accrued benefits,” says Mantri. Early surrender is unlikely to generate any additional return over the premiums paid.

Who should consider TROP 

According to Rath, TROP plans suit customers who value life cover and a tangible benefit at maturity. 

Many experts, however, are of the view that most people should avoid them. “Younger buyers and people purchasing cover for a longer term should particularly avoid TROP plans,” says Varun Agarwal, head of term insurance, Policybazaar.

Buyers could purchase a pure term plan and invest the difference in a mutual fund or another investment. “Before making the purchase decision, buyers should calculate what the incremental TROP premium could grow to in a mutual fund or another investment over a 30- to 40-year policy term,” says Agarwal.

Checks before buying

If you decide to buy these plans, compare the offerings of various insurers. Compare their premiums and claim settlement ratios. Examine exclusions, waiting periods and surrender provisions. “Buyers should compare the timing and amount payable if the policy is surrendered,” says Kumar.

Understand the tax treatment

The premium returned under a TROP plan receives the same tax treatment as any other maturity payout from a life insurer. “For policies issued on or after April 1, 2012, maturity proceeds are exempt if the annual premium does not exceed 10 per cent of the sum assured,” says Rupali Singhania, founder, Areete Consultants.

For policies issued on or after April 1, 2023, the exemption is also subject to an aggregate annual premium threshold of ₹5 lakh. “If the aggregate of annual premiums across non-unit-linked life insurance policies exceeds ₹5 lakh, the maturity proceeds are not tax-free,” says Singhania. The ₹5 lakh threshold does not apply to death benefits paid to the nominee.