Due to lower economic growth and rising inflation, net household financial savings in India have declined sharply in the last three years, from 12.2% in FY10 to 9.3% in FY11 and to 7.8% in FY12. The current level of 7.8% financial savings is the lowest since 1990 - over two decades.
RBI attributed the decline to persistently high inflation, leading to low real interest rates on bank deposits and small savings funds. These, coupled with an uncertain global environment which has been adversely impacting returns from the stock market, are prompting households to investing in physical assets such as real estate and gold, seen providing better returns and act as a hedge against inflation.. These physical assets don’t contribute to economic development like financial savings do, which are invested back into the economy for productive growth. Besides, import of gold increases our trade deficit and puts pressure on the Rupee.
Net financial savings include deposits with banks, investments in stocks, mutual funds, small savings, life insurance, provident and pension funds. Insurance ranks as the 2nd most popular savings tool after bank deposits, yet there has been a consistent decline in insurance sales over the last 3 years. Several regulatory changes as well as erosion in tax benefits have contributed to this decline. Sales of life insurance products are concentrated in the last quarter of the financial year, which reflects the fact that tax benefits are a very important reason for purchase of insurance policies. The Indian insurance industry is thus looking for attractive tax incentives from the Union Budget 2013-14 to boost financial savings and hence life insurance volumes.
Following are the steps that can be taken to bring back public demand for life insurance:
De-linking the tax benefits from premium-cover multiples: In the last budget, the tax benefits were restricted insurance policies where the premium-cover multiple was a minimum of 10 times, as compared to 5 times that was allowed in the past. This has led to increase in the premium rates. Instead of linking the tax benefits to cover multiple, the government could consider allowing tax benefits to all policies with a policy term of 10 years and above, as these are long-term and boost contractual savings in the economy.
Increase in tax exemption limits of 80C: To encourage financial savings tax exemption limit under Sec 80C can be increased from Rs. 1 lac to Rs. 3 lac as recommended in the DTC. This would boost the demand for instruments like life insurance and help divert flows from savings in physical assets to financial assets.
Specific allocation for life insurance: An additional allocation out of 80C for life insurance products including pension products amounting to Rs. 50,000 must be considered which would encourage long-term savings.
Making annuities tax-free: Customers who invest in pension products to secure their life after retirement, find their annuities taxed. This goes against the principle of welfare as senior citizens. In short, annuity products should be made competitive with other retirement products like PPF, EPF and so on. Pension products were once very popular and contributed to over 30% of the life insurance business. Today, this category is negligible due to the sharp decline in demand for these products. The government can help boost this demand for retirement products by making annuities tax-free
Reversing the Service Tax increase: Service tax on new Business was increased from 1.5% to 3% in the last fiscal, and from 1% to 1.545% for subsequent premiums. The government must reconsider this change and revert to the earlier Service Tax rates of 1.5% for New Business and 1% for subsequent premiums. This will help make life insurance more affordable and bring parity with other financial products. Service tax was also levied on all charges for ULIPs, this must also be reversed to being levied only on Fund Management Charge, thereby boosting the returns of the investor and making the category more attractive
Increasing the TDS threshold to Rs. 50,000: For the life insurance agents, the TDS threshold on agent commission should be raised to Rs 50,000 from the existing Rs 20,000 since most of life insurance agents are in a low-income bracket.
Nageswara Rao, MD & CEO - IDBI Federal life Insurance