Supreme Court clarifies calculation of surrender value of life insurance policies: Anandrao Ramchandra Salunke vs. Life Insurance Corporation of India (2019)

Introduction

Date of the Judgment: 7 March 2019

Citation: 2019 INSC 201

Judges: Dr. Dhananjaya Y Chandrachud, J and Hemant Gupta, J.

What happens to the money you’ve paid into a life insurance policy if you decide to stop paying premiums before the policy matures? The Supreme Court of India recently addressed this question, specifically focusing on how the surrender value, including bonuses, should be calculated. This case clarifies the legal position on the surrender value of life insurance policies when a policyholder discontinues premium payments before the policy’s maturity. The Supreme Court, in this case, examined the interpretation of Section 113 of the Insurance Act, 1938 and the terms of the policy document to determine the correct method for calculating the surrender value of a life insurance policy, particularly concerning the treatment of bonuses. The judgment was delivered by a two-judge bench comprising Justice Dr. Dhananjaya Y Chandrachud and Justice Hemant Gupta.

Case Background

On 11 November 1993, Mr. Anandrao Ramchandra Salunke (the appellant) purchased a life insurance policy from the Life Insurance Corporation of India (LIC), the respondent. The policy had a sum insured of Rs 75,000 with a term of 25 years. The appellant was required to pay a quarterly premium of Rs 775, totaling 100 quarters over the policy term. The policy was set to mature on 11 November 2018. On 27 May 2001, the appellant took a loan of Rs 15,000 from LIC by pledging the policy. In August 2001, the appellant stopped paying the premiums and applied for the surrender value of the policy. LIC offered a surrender value of Rs 2,268 after deducting the loan amount and outstanding interest.

Timeline

Course of Proceedings

The appellant filed a complaint with the District Consumer Disputes Redressal Forum, Sangli. The District Forum ruled in favor of the appellant, directing LIC to pay Rs 29,888 with interest. LIC appealed to the State Consumer Disputes Redressal Commission, which upheld the District Forum’s decision. However, the National Consumer Disputes Redressal Commission reversed the decision, relying on its earlier ruling in Branch Manager, LIC of India v A Paulraj.

Legal Framework

The case primarily revolves around the interpretation of Section 113 of the Insurance Act, 1938, and Clause 7 of the policy document. Section 113 of the Insurance Act, 1938, as it stood before amendment, stated:

“113. Acquisition of surrender value by policy-
(1) A policy of life insurance under which the whole of the benefits
become payable either on the occurrence, or at a fixed interval or
fixed intervals after the occurrence, of a contingency which is bound
to happen, shall, if all premiums have been paid for at least three
consecutive years in the case of a policy issued by an insurer, or five
years in the case of a policy issued by a provident society defined in
Part III, acquire a guaranteed surrender value, to which shall be
added the surrender value of any subsisting bonus already attached
to the policy, and every such policy issued by insurer shall show the
guaranteed surrender value of the policy at the close of each year
after the second year of its currency or at the close of each period of
three years throughout the currency of the policy : Provided that the
requirements of this sub-section as to the addition of the surrender
value of the bonus attaching to the policy at surrender shall be
deemed to have been complied with where the method of calculation
of the guaranteed surrender value of the policy makes provision for
the surrender value of the bonus attaching to the policy: Provided
further that the requirements of this sub-section as to the showing of
the guaranteed surrender value on a policy shall be deemed to have
been complied with where the insurer shows on the policy the
guaranteed surrender value of the policy by means of a formula
accepted in this behalf by the Authority as satisfying the said
requirements: Provided further that the provisions of this sub-section
as to the showing of the guaranteed surrender value on a policy shall
not take effect until after the expiry of six months from such date as
the Authority may, by notification in the official Gazette, appoint in
this behalf.
(2) Notwithstanding any contract to the contrary, a policy which has
acquired a surrender value shall not lapse by reason of the non-
payment of further premiums but shall be kept alive to the extent of
the paid-up sum insured, and the paid-up sum insured shall for the
proposes of this sub-section include in full all subsisting reversionary
bonuses that have already attached to the policy, and shall, where
the policy is one on which the maximum number of annual premiums
payable is fixed and the premiums are of uniform amount, be before
the inclusion of such bonuses not less than the amount bearing to the
total sum insured by the policy exclusive of bonuses the same
proportion as the total period for which premiums have already been
paid bears to the maximum period for which premiums were
originally payable.
(3) A policy kept alive to the extent of the paid-up sum insured under
sub section (2) shall not be entitled by virtue of that sub-section to
participate in any profits declared distributable after the conversion of
the policy into a paid-up policy.
(4) Sub-section (2) and sub-section (3) shall not apply –
(a) where the paid-up sum insured by a policy being a policy issued
by an insurer, is less than one hundred rupees inclusive of any
attached bonus or takes the form of an annuity of less than twenty-
five rupees, or where the paid-up sum insured by a policy, being a
policy issued by a provident society as defined in Part III, is less than
fifty rupees inclusive of any attached bonus or take the form of an
annuity of less than twenty-five rupees, or
(b)where the parties after the default has occurred in the payment of
the premium agree in writing to some other arrangement, or
(c) to policies in which the surrender value is automatically applied
under the terms of the contract to maintaining the policy in force after
its lapse through non-payment of premium.”

Clause 7 of the policy document stipulated:

“7. Guaranteed surrender value
This policy can be surrendered for cash after the premiums have
been paid for at least three years. The minimum surrender value
allowable under this policy is equal to 30% of the total amount of the
mentioned premiums paid excluding premiums for the first year and
all extra premiums and/or additional premiums for accident benefits
that may have been paid. The cash value of any existing vested
bonus additions will also be allowed.”

Arguments

The appellant argued that LIC had incorrectly calculated the surrender value of the bonus by applying a factor of 32.92% to both the premium amount and the bonus amount. The appellant contended that there was no provision in the policy that allowed for a reduction in the bonus amount. The District Forum had agreed with the appellant’s contention, stating that LIC had not shown any policy term that allowed for a 32.92% reduction in the bonus amount.

LIC, on the other hand, argued that Section 113 of the Insurance Act, 1938, does not mandate the payment of the full value of the bonus, but only its surrender value. LIC relied on the first proviso to Section 113(1) of the Insurance Act, 1938, which states that the requirement of adding the surrender value of the bonus is met if the method of calculating the guaranteed surrender value makes provision for the surrender value of the bonus. LIC also referred to the second proviso, which allows the insurer to show the guaranteed surrender value using a formula accepted by the authority.

Issues Framed by the Supreme Court

The Supreme Court did not explicitly frame issues in a separate section. However, the core issue that the court addressed was:

• Whether the Life Insurance Corporation of India had correctly calculated the surrender value of the life insurance policy, including the bonus, in accordance with Section 113 of the Insurance Act, 1938, and the terms of the policy document.

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issues

Authorities

The Court considered the following authorities:

Judgment

The Supreme Court held that LIC’s method of calculating the surrender value was correct and in accordance with the law and the policy terms. The Court emphasized that the surrender value of a life insurance policy is not equal to the total premiums paid, as life insurance operates on a cooperative principle where premiums are pooled to cover claims. The Court noted that the surrender value is essentially the policyholder’s share of the ‘reserve’ after deducting the insurer’s expenses and claims paid.

The Court observed that the first proviso to Section 113(1) of the Insurance Act, 1938, allows for the method of calculating the guaranteed surrender value to make a provision for the surrender value of the bonus. The second proviso allows the insurer to show the guaranteed surrender value by means of a formula accepted by the authority. The Court found that LIC had followed a duly approved formula in calculating the surrender value, including the bonus, by applying a factor of 32.92% to the total paid-up value of the policy.

The Court also noted that the surrender value of the bonus cannot be the same as the bonus that would have been payable had the policy continued till maturity.

How each authority was viewed by the Court?

• Branch Manager, LIC of India v A Paulraj: The Court noted that the National Commission had relied on this case to reverse the State Commission’s decision.
• Section 113 of the Insurance Act, 1938: The Court interpreted this section to determine the legality of the surrender value calculation.
• Clause 7 of the policy document: The Court interpreted this clause to determine the contractual obligations of the parties.
• Charles C. Burlingham v Charles M. Crouse [228 U.S. 459(1913)]: The Court used this case to explain the concept of surrender value in life insurance policies.
• In re McKinney [15 Fed. Rep. 535, 537]: The Court cited this case to further explain the concept of surrender value.
• Life Insurance Corporation Regulations 1959: The Court referred to these regulations to understand the powers of the Executive Committee.
• Minutes of the Seventy-seventh meeting of the Executive Committee of the Life Insurance Corporation of India held on 19 August 1959: The Court referred to these minutes to understand the approval of the surrender value scale.

The Court quoted from Charles C. Burlingham v Charles M. Crouse [228 U.S. 459(1913)] to clarify the concept of surrender value:

“…Life insurance, may be given in a contract providing simply for
payment of premiums on a calculated basis which accumulates no
surplus for the holder. Such insurance has no surrender value.
Policies, whether payable at the end of a term of years or at death,
may be issued upon a basis of calculation which accumulates a net
reserve in favor of the policy-holder and which forms a consequent
basis for the surrender of the policy by the insured with advantage to
the company upon the payment of a part of this accumulated
reserve.”

The Court also quoted from In re McKinney [15 Fed. Rep. 535, 537]:

“The first of these elements, the surrender value of the policy, arises
from the fact that the fixed annual premium is much in excess of the
annual risk during the earlier years of the policy, an excess made
necessary in order to balance the deficiency of the same premium to
meet the annual risk during the latter years of the policy. This excess
in the premium paid over the annual cost of insurance, with
accumulations of interest, constitutes the surrender value…”

The Court also observed:

“The surrender value of the subsisting bonus attached to the policy cannot be the bonus which would have been payable had the policy continued to its full term.”

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the need to uphold the contractual terms of the insurance policy and the provisions of Section 113 of the Insurance Act, 1938. The Court emphasized the cooperative nature of life insurance, where premiums are pooled to cover claims, and the surrender value is a share of the reserve, not a return of all premiums paid. The Court also considered the actuarial principles that underpin the calculation of surrender values. The court’s reasoning was also influenced by the need to ensure that the insurance company is able to meet its obligations to other policyholders and that the surrender value is calculated in a fair and equitable manner.

Fact:Law Ratio

Logical Reasoning

Key Takeaways

• The surrender value of a life insurance policy is not equal to the total premiums paid.
• The surrender value includes the paid-up value and the surrender value of any vested bonuses.
• The surrender value of a bonus is not the same as the bonus that would have been payable had the policy continued to its full term.
• Insurers can use a formula to calculate the surrender value of a bonus, provided it is approved by the relevant authority.
• The Supreme Court upheld the method used by LIC for calculating the surrender value in this case.

Directions

No specific directions were given by the Supreme Court in this case.

Development of Law

The Supreme Court clarified that the surrender value of a life insurance policy, including bonuses, is not equivalent to the total premiums paid or the full bonus amount. It reaffirmed that the surrender value is calculated based on a formula that takes into account the cooperative nature of life insurance and the insurer’s need to maintain a reserve. The judgment also clarified that the surrender value of the bonus is not the same as the bonus that would have been payable had the policy continued to its full term. This ruling reinforces the principle that the surrender value is a share of the reserve, not a return of all premiums paid, and that insurers can use a formula to calculate the surrender value of a bonus, provided it is approved by the relevant authority.

Conclusion

The Supreme Court dismissed the appeal, affirming that the Life Insurance Corporation of India had correctly calculated the surrender value of the appellant’s life insurance policy. The Court upheld the method used by LIC, emphasizing that the surrender value is not equivalent to the total premiums paid or the full bonus amount, but rather a share of the policy’s reserve. The judgment clarified the legal position on the calculation of surrender value, including bonuses, in life insurance policies, providing guidance for both insurers and policyholders.