Vijay Sharma sold his Rs 250,000 endowment life policy to Ravi Mukherjee six months back for a consideration of Rs 165,000.

Had he gone to the Life Insurance Corporation of India, he would have only got the surrender value amounting to Rs 150,000 -- a difference of 10 per cent against the surrender value.

The funds released through his endowment plan will help pay for hospital expenses, since he was recently been diagnosed as having cancer.

With high hospitalisation expenses, Sharma would hardly have been able to service his life insurance policy -- but Mukerjee, a high net worth individual, can.

Welcome to the world of TIP (tradeable insurance policy), where the investor does not take out a policy on his own life but reaps high rewards by buying an existing, lapsed LIC policy.

TIP is the new buzzword for high net worth investors who are looking for safe, high-return investment opportunities amid falling interest rates.

Under TIP, the insurance policy is legally assigned to the purchaser/investor against a valuable consideration higher than the surrender value. The life cover remains in the name of the original policyholder, but the benefits are the property of the assignee/investor.

On procuring a TIP, the insurance company is notified of the change in ownership, and a copy of the legal assignment is registered to protect the new owner's rights.

How the system works

Policies, which have lapsed after acquiring surrender value have to be first identified. The investor and original policyholder then come to an agreement on the consideration to be paid for assignment of the policy and transfer of all benefits of the same to the investor.

This exercise has to be completed with knowledge of the insurance company, which then has to reassign the policy. The assignee then continues to pay the residual annual premiums. On maturity the returns from the policy go to the investor.

In the instance mentioned above, Mukerjee was only too happy to purchase the endowment policy. Even as he shelled out a sum of Rs 165,000 to Sharma, the original policyholder for the assignment of all rights, and has paid all the past annual premiums for the number of years the policy lapsed, and will continue to pay all future premiums for the next five years till the policy matures, Mukerjee is looking at a sizeable return of 12 per cent on his total investment.

This calculation is based on the maturity value of the risk cover plus the annual bonuses he stands to earn over the coming years.

In the event that Sharma dies prior to the maturity of the policy, Mukerjee stands to gain even higher returns as the premium outgo decreases, and benefits come into effect that much earlier.

A growing malaise

Lapsation of insurance covers has become a growing concern for insurance companies the world over. Changing lifestyles, the era of pink slips, mis-selling of risk covers, creation of artificial demand, changes in socio-economic factors like children's education and rising medical expenses, all contribute to high lapsation rates that can vary between 20 to 30 per cent.

Even private players, who commenced operations only in the last couple of years, have lapsation ratios of well over five to 10 per cent. The concern triggers from the high cost of acquiring a policy -- 40 per cent of premium collection goes into agency commission in the first year and five per cent annually thereafter.

Against this, a policy revival earns LIC 12 per cent interest on which it has to pay just five per cent to agents as renewal commission.

Win-win for all

It offers a win-win situation for all parties concerned. The assignment of the policy to a new holder helps revive lapsed policies, thereby keeping the lapse ratio low of insurance companies.

The agent continues to earn his annual renewal commission. The original policyholder gets more than what he would have got as surrender value from the insurance company. And the individual with the highest stakes gains returns of 9-12 per cent, which are guaranteed and tax-free.

What can increase returns?

Returns can increase significantly on the unfortunate demise of the original policyholder. The purchaser cannot suffer a financial loss considering the sovereign backing on the sum assured. Preference is for shorter-term policies, which have a residual maturity of five to 15 years. Shorter the term, higher the returns.

Are there any shortfalls?

No. However, returns can reduce with insurance companies cutting down annual bonuses.

Says Ketan Mehta, vice chairman Insure Policy Plus Services, with LIC having reduced its annual bonus by about 10 per cent, this brings down investment returns by around one per cent.

"Future returns will go down a bit, but with interest rates moving south, TIPs has attracted a lot of investor demand in the country," he added.

Insure Policy Plus Services (India) has acquired well over 5,000 policies, and has sold about Rs 5-6 crore (Rs 50-60 million) worth of policies to date to various high networth and corporate investors.

How to buy a TIP?

You need to decide on the capital investment and duration period. Accordingly, Insure Policy Plus Services (India), a company that is in the TIP business, will identify policies that match your selection.

• Most policies have a maturity period of four to six years
• TIPs can be resold prior to maturity

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