Premium, Lapse, Revival and Surrender Value

In one line

If a life premium is not paid the policy does not simply end: it may run on in reduced form, it may be revived, and it has a cash value the policyholder can take.

In the wording a student can write in an exam: a life policy carries days of grace within which a late premium may be paid without prejudice; on default it lapses, but section 113(3) of the Insurance Act, 1938 provides that a non linked policy which has acquired a surrender value shall not lapse for non payment of further premiums but shall be kept in force to the extent of the paid up sum insured; section 50 requires the insurer to give notice of the options available before the expiry of three months from the date the premium fell due; and section 113(1) and (2) require every policy to acquire a surrender value as the regulations specify and to contain the approved formula for calculating the guaranteed surrender value.

Why a life policy cannot simply lapse

Because the policyholder has already paid for more than he has received. The premium is level while the risk rises with age, so the early years overpay and the excess accumulates as a reserve. A policy cancelled in year twelve for one missed premium would forfeit twelve years of that excess, and the insurer would keep it.

So the law converts the reserve into rights. A paid up value, which keeps the cover alive in reduced form; a surrender value, which is cash; and a right to revive. All three are ways of giving the policyholder what he has already paid for.

A general insurance policy has none of them, because a one year policy at a risk related premium accumulates nothing.

Payment, and the days of grace

Section 64VB requires the premium to be received before the risk is assumed, and the chapter on solvency works out how that applies to a first premium.

For renewal premiums the policy allows days of grace, commonly thirty days for annual, half yearly and quarterly modes and fifteen for monthly. Payment within the grace period is treated as timely, and if the life insured dies within it the claim is paid, subject to deduction of the unpaid premium.

After the grace period the policy is in default. What happens then depends on whether it has acquired a surrender value.

Lapse and the paid up policy: section 113(3)

Section 113(3) provides that, notwithstanding any contract to the contrary, a policy of life insurance under a non linked plan which has acquired a surrender value shall not lapse by reason of non payment of further premiums, but shall be kept in force to the extent of the paid up sum insured, calculated by a formula approved by the Authority and contained in the policy, and the reversionary bonuses that have already been attached to the policy.