All you need to know about Non-negative claw-back Additions

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As per the guidelines issued by Insurance Regulatory and Development Authority of India (IRDAI), barring the traditional insurance-cum-investment products, insurance policies now have a cost on caps in the form of reduction in yield. This is applicable on unit-linked insurance plans (ULIPs) and variable insurance plans (VIPs). At various durations starting from 5th policy anniversary till the end of the policy term, Reduction in Yield (RIY) will be calculated as the difference between Gross Yield and Net Yield. Where Gross Yield shall be computed based on the actual accrual of all income elements i.e. premiums, income from investments as an when received and all actual debits.

What is the net reduction in yield?

ULIP policies have many charges, like Allocation charges, Fund management charges, Mortality charges, administrative charge etc. Some charges are fixed while other are variable and are different during the policy term. These charges directly affects the return on the investment. This reduction in returns is called reduction in yield.
Reduction in Yield (RIY) is defined in the South African Actuarial Journal as the percentage-point reduction in annual return over the period of saving that is equivalent in overall effect to the erosion of value due to all charges. For example, a RIY of 3.5% p.a. means that you will pay an average annual fee of 3.5% over the term of the investment.
IRDAI has effected a cost cap through the net reduction in yield. It means, the costs of policy can’t drag the overall return or the gross return down by more than the prescribed percentage points. IRDAI has mandated that the net reduction in yield should not be more than 4% in the fifth year coming down to a difference of 2.25% by the 15th year and thereafter. So, if your fund value is growing at a rate of 10%, the charges should be such that by the fifth year the net return should not be less than 6% and by the 15th year it should not be less than 7.75%. To ensure that the costs don’t lower the net reduction in yield, Irda has prescribed that insurers at the time of filing their products calculate the net reduction in yield on six different assumed rates of gross return of 6%, 8%, 10%, 15% 20% and 25%. The net yield in all these cases should conform to the prescribed limits.

What is Non-negative claw-back Additions?

IRDAI has put on cap on the maximum reduction in yield. If the difference between calculated reduction in yield and Maximum return in yield required is positive then an equivalent number of units shall be added to the Policyholders’ Fund in such a way that the calculated redction in yield shall be equal to the maximum reduction in yield. The same shall be called as Non-negative claw-back addition. The units of the Non-negative claw-back shall be based on the NAV declared as on the date of Non-negative claw-back addition.

Maximum reduction in yield of New Endowment Plus plan

Maximum reduction in yield of New Endowment Plus Plan (Table No. 835)

Lets see an example taking Maximum reduction in Yield of Newly launched New Endowment Plus plan of LIC of India (Shown in the table above). Suppose the calculated reduction in yield in the 10 year of the policy is 3.15%. But as per IRDAI guideline, in the 10th year of a ULIP policy maximum reductin in yield should not be more than 3%. It means there is a positive deviation, so insurer have to add equivalent number of units to policy holders fund value to bring down the calculated reduction in yield to 3% or less in that year. This addition of unit to maintain the reduction in yield up to a definite level is called Non-negative claw-back Additions.

What is in there for Policy Holders?

There are various charges in ULIP policies, which are deducted from the policy holders fund by cancelling the equivalent amount of NAV. Since performance of any ULIP fund change with time and so does the charges or the cost to the policy holder. By putting on the cap on reduction in Yield by IRDAI, it ensures that charges should not fluctuate much during the policy term and remain with in the limit as prescribe by IRDAI.

To know more about IRDA (Non-linked insurance Products) Regulations, 2013 and IRDA (Linked Insurance Products) Regulations, 2013 please Click Here

1 Comment on "All you need to know about Non-negative claw-back Additions"

  1. Good article, nicely explained the non negative claw back addition.

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