Life insurance serves as a cornerstone in financial planning, offering individuals and families a safety net against unforeseen events. However, the industry faces significant challenges, notably policy lapsation, which undermines its effectiveness. Policy lapsation occurs when policyholders discontinue their policies prematurely, leading to financial losses for both insurers and insured parties. Let us know the causes of policy lapsation, and its impact on the life insurance industry, and explore innovative solutions to mitigate this issue, with a focus on the potential of Artificial Intelligence (AI) to revitalize the sector.

Understanding Policy Lapsation

Policy lapsation refers to the termination of a life insurance policy due to non-payment of premiums. When a policy lapses, the coverage ceases, leaving policyholders without the intended financial protection. For insurers, lapsation translates to lost revenue and increased operational costs associated with policy acquisition and maintenance.

Extent of the Problem

The prevalence of policy lapsation is a pressing concern. According to data from the Insurance Regulatory and Development Authority of India (IRDAI), the life insurance industry had an average 13th-month persistency ratio of 61% in the fiscal year 2016. This statistic implies that only 61 out of every 100 policies sold were renewed after the first year, leaving 39% of policies lapsed within just 13 months. Furthermore, by the fifth year, the persistency ratio dropped significantly, with two-thirds of policies lapsed by buyers, indicating that only about 33% of policies remained active after five years.

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The Life Insurance Corporation of India (LIC), the country's largest insurer, reported a 13th-month persistency ratio of 63% in March 2017, meaning 37% of its policies were not renewed after the first year. Although this figure improved slightly to 66% in 2018, it still indicates that one-third of policyholders continued their policies after the first year.

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Causes of Policy Lapsation

Several factors contribute to the high rates of policy lapsation:

  1. Mis-selling and Lack of Understanding: Many policies are sold without adequately educating customers about the product's features and benefits. This lack of understanding can lead to dissatisfaction and eventual discontinuation.
  2. Financial Constraints: Policyholders may face unforeseen financial hardships, making it challenging to continue premium payments.
  3. Perceived Low Returns: Traditional life insurance products often offer lower returns compared to other investment avenues, prompting policyholders to discontinue their policies in favor of more lucrative options.
  4. Agent Behavior: Some agents prioritize achieving sales targets over aligning products with customer needs, leading to policy lapsation when customers realize the mismatch.
  5. Customer Behavior
  6. Human Unpredictability
  7. Allocation of the Same Funds to Different area or saving an investment

Impact on the Industry

Policy lapsation has far-reaching consequences for the life insurance industry: