Ch. 11: Whole Life Insurance Reduced Paid up Plan: Know its Benefits with Examples

You may want to stop paying premiums and withdraw your whole life insurance policy because you feel the policy isn't serving the purpose you originally intended it to or you are facing financial limitations. You might also realise that your dependents aren’t reliant on you anymore for their financial needs.

But, how does it work? What happens if you stop paying the premiums? What are your options? Are you eligible to receive money against the premiums you have already paid?

Let’s have an in-depth look!

Eligible for receiving Surrender Value

You may decide to completely terminate the policy. In this case, you will be eligible for receiving the surrender value it has accrued. Remember, the surrender value for the policy begins to accrue only after you have regularly paid the due premiums for a span of at least two years. You will be required to intimate the insurer about your intent to surrender the policy.

There are two types of surrender values -

• Guaranteed Surrender Value - a percentage of the total premiums paid, except for premiums paid for the first policy year. It doesn’t include rider premiums or bonuses.


• Special Surrender Value - Dependent on the market value of the investments. It is determined periodically by the insurer and is always higher or equal to GSV.

If you decide to stop paying premium after it has acquired any surrender value, the policy becomes a Reduced Paid-Up Policy . Once this happens, the

death benefit, maturity benefit, survival benefit, and the bonus reduce proportionately. Reduced Paid-Up policies will not participate in future bonuses. Yes, the policy will continue till the end of its term. You will be eligible to receive all benefits (death benefit, maturity benefit, survival benefit, any bonuses). However, as mentioned before, these will reduce proportionately.

Let’s have a look at how they reduce.

• Sum Assured under a Reduced Paid-Up Policy (RPU)
  
  Under RPU, the Sum Assured that is chosen by you is reduced proportionately based on the premiums paid versus premiums payable. The reduced cover is called a Reduced Sum Assured. This is calculated by multiplying the Sum Assured with a RPU factor, which is simply the number of premiums paid vs number of premiums that were payable as per the policy schedule.
  
  RPU factor = No. of Premiums Paid/ No. of Premiums Payable
  
  The Reduced Sum Assured will be calculated as such -
  
  Reduced Sum Assured = Sum Assured x RPU Factor

For example - Ramesh purchases a whole life policy with a Sum Assured of Rs 30 lakhs and a premium payment term of 16 years. He is required to pay a premium of Rs 30,000 every year. He decides to discontinue the policy in the 8th year because he loses his job and has no means to pay the premiums. He informs the insurer about the same and his intention to discontinue the policy. Since he has done so in the 8th year, the policy has acquired a surrender value. It converts into a Reduced Paid-Up Policy. The Reduced Sum Assured can be calculated by the formula given above.

Sum Assured = 30 lakhs
No. of Premiums Paid = 8
No. of Premiums Payable = 16

RPU Factor = No. of Premiums Paid/ No. of Premiums Payable
= 8/16
= 0.5

Reduced Sum Assured = Sum Assured x RPU Factor
= 30,00,000 x 0.5
= 15,00,000

Ramesh’s Reduced Sum Assured is Rs 15 lakhs

If your policy has accrued a bonus, you are eligible to receive 100% of it with the RPU payouts up to the year of surrender. However, if there is any bonus earned during the year in which the policy is discontinued, it will be reduced in the same manner as the Sum Assured.

Please note that you may or may not receive the reduced bonuses, depending on the product.

The Reduced Bonus is calculated by multiplying the Bonus earned during the year of surrender with the RPU factor.

RPU factor = No. of Premiums Paid/ No. of Premiums Payable

The Reduced Bonus will be calculated as such -

Reduced Bonus = Bonus x RPU Factor

Important Note: Reduced Paid-Up policies are not eligible for any future bonuses.

Let’s look at Ramesh’s example again. Say his policy earned bonuses worth Rs 6000 by the 7th year of the policy and a bonus of Rs 2000 in the 8th year. Since he has discontinued the policy in the 8th year, his reduced bonus for the same would look like -

RPU Factor for 8th year = No. of Premiums Paid x No. of Premiums Payable
= 8/16
= 0.5

Reduced Bonus for 8th year = Bonus x RPU Factor
= 2000 x 0.5
= 1000

So, the reduced bonus for the 8th policy year is Rs 1000.

Ramesh will receive 100% of the bonuses his policy has accrued during the 7 years and the reduced bonus for the 8th year. Hence, the total bonus he will receive is = 6000 + 1000 = Rs 7000. The bonus will be paid along with the survival benefit or death benefit, whichever happens earlier.

Survival Benefit
You will be paid either -

• The accrued bonuses along with 5% of the Reduced Paid-Up Sum Assured, or
• A Reduced Paid-Up Guaranteed income. This is a predefined percentage of the sum assured and will be paid at the end of each year of the benefit payout period.

The Survival Benefit that will be paid to you depends on the product you buy.

Maturity Benefit
If you survive the policy duration, you will be paid the reduced sum assured along with reduced bonuses and paid-up additions (if any). This again depends on the policy you buy.

Death Benefit
If you pass away within the policy duration, your nominee will be paid the reduced sum assured, along with reduced bonuses and paid-up additions (if any).

Karan, a 35-year-old male, bought a whole life insurance policy with a sum assured of Rs 20 lakhs on 1st May 2018. The premium paying term is 20 years and he pays an annual premium of Rs 30,000. He suddenly loses his job on 1st April 2022 due to mass layoffs at his company, leaving him with unstable finances. He, therefore, decides to stop paying the premiums and convert the policy to a reduced paid-up policy. The bonuses his policy has accrued till 1st May 2021 are worth Rs 7000 and he has earned a bonus of Rs 2500 from 1st May 2021 till 1st April 2022. His policy is also eligible for a survival benefit.

So -

Sum assured = 20 lakhs
Total Number of Premiums Paid = 4
Total No. of Premiums Payable = 20
Bonuses till 3rd year of the policy = 7,000/-
Bonus in 4th year of the policy = 2,500/-

Now, let’s see how his benefits will be affected -

• Bonus
  He is eligible to receive 100% of the bonus till the 3rd year of the policy. The payable bonus for the 4th year will be calculated according to the formula given above -
  
  Reduced bonus = Bonus x (Number of Premiums Paid/Number of Premiums Payable)
  = 2500 x 4/20
  = 500
  
  Therefore, the reduced bonus for the 5th year is Rs 500.
  
  Karan will receive a total bonus of Rs 7000 + Rs 500 = Rs 7500 when he discontinues the policy. This amount will be paid to Karan either at the start of the benefit payout period with a percentage of the reduced sum assured as survival benefit or to his nominee along with the entire reduced sum assured as death benefit whichever event happens earlier. For subsequent payouts, there will be no bonuses.


• Death Benefit
  The reduced death benefit will be equal to the reduced sum assured along with accrued bonuses and paid-up additions, if any.
  
  According to the formula given above,
  
  Reduced sum assured = Sum assured x (Number of Premiums Paid/Number of Premiums Payable)
  = 20,00,000 x (4/20)
  = 4,00,000
  
  The reduced sum assured is Rs 4,00,000. And the bonus he’ll receive is Rs 7500 according to our calculations above. So, the reduced death benefit payable to Karan’s nominee will be -
  
  Reduced Sum Assured + Accrued Bonuses = 4,00,000 + 7500 = Rs 4,07,500.
  
  This bonus will be added to the reduced Sum Assured only when death happens during the premium payment term. If the death happens beyond that, i.e., after the start of the survival benefit - only the reduced sum assured will be paid to the nominee. The bonus will be paid to Karan with the first instalment of the survival benefit.


• Maturity Benefit
  The maturity benefit is payable to Karan once he crosses 99 years of age. It works in a similar fashion as the death benefit and the reduced maturity benefit will be calculated in the same way.
  
  The reduced maturity benefit will be equal to the reduced sum assured along with any accrued bonuses or paid-up additions.
  
  According to the formula given above,
  
  Reduced sum assured = Sum assured x (Number of Premiums Paid/Number of Premiums Payable)
  = 20,00,000 x (4/20)
  = 4,00,000
  
  The reduced sum assured is Rs 4,00,000, which will be paid to Karan as the maturity benefit. The bonus will have been paid to him with the first instalment of the survival benefit.


• Survival Benefit
  Karan is also eligible to receive a survival benefit once the policy payment term gets over, i.e., in 2038. It will be disbursed to him as an annual income.
  
  Let’s assume his reduced survival benefit is 5% of the reduced sum assured along with accrued bonuses, if any.
  
  According to our calculations above -
  Reduced Sum Assured = 4,00,000
  Bonus = 7500
  
  Survival Benefit = 5% of Reduced Sum Assured + Bonus
  = 5% of 4,00,000 + 7500
  = 20,000 + 7500
  = 27,500
  
  Hence, Karan will receive a survival benefit of Rs 27,500 in his first instalment of the survival benefit. In the subsequent instalments, he will receive Rs 20,000 as the survival benefit every year till the end of his benefit payout period.

Discontinuing an insurance policy may have serious long-term effects on both your and your family’s futures. Therefore, it is very important to know what happens once you stop paying the premiums and how it affects the various benefits of a policy to be aware of how your finances will look like.