Should you Surrender a Life Insurance Policy or Make it Paid-Up?

The terms paid-up value and surrender value come become relevant when the policyholder is thinking about discontinuing his life insurance policy.

For instance, Rhea is dissatisfied with her current life insurance plan. She has discovered another, better plan and wants to switch. Her dilemma is with the existing policy-should she make it paid-up or surrender it altogether.
Rhea's dilemma is a common one, so let us understand the two concepts.

Surrendering a Policy

You surrender a policy when you decide to cancel the policy in its entirety. Once you surrender your life insurance policy, you are no longer required to pay further premiums and your life insurance cover is also terminated.

So, do you exit the policy empty-handed? It will depend on how long you have been paying premiums. Policyholders who have paid premiums for less than three years would have to forego all paid premiums. However, policyholders who have paid premiums for a minimum of three years will take home the Surrender Value of the policy.

Surrender Value is calculated using the following formula:

Surrender Value = [{Sum Assured x (Number of Premiums Paid / Total Number of Premiums Payable)} + Accrued Bonuses] x Surrender Value Factor

The Surrender Value increases with the number of premiums paid. Moreover, the Insurance Regulatory and Development Authority (IRDA) has ruled that surrender charges only apply to policies surrendered in less than five years.

At a Glance:

1. You stop paying premiums.

2. You receive the settlement on the surrender date.

3. The policy is closed.

4. Your life insurance cover ceases immediately.

Making the Policy Paid Up

The surrender option seems convenient enough, but you may feel iffy about terminating the coverage completely. Don't sweat it-you have a second option. Rather than cancel the policy, you can make it paid up.

This would again depend on whether you have paid premiums for a minimum of three years. If you have, all you have to do is stop paying the premiums. The policy lapses when a premium is not paid within the specified due date. It is now considered a paid-up policy and has a Paid-up Value. The life insurance cover continues until maturity to the extent of this paid-up value. (If it is under three years since the commencement of the policy, however, the policy will become void if premiums are not paid on time.)

Paid-up Value is calculated using the following formula:

Paid-up Value = Original Sum Assured x (Number of Premiums Paid / Total Number of Premiums Payable)
Thus, the paid-up value is really a reduced portion of your original sum assured depending on how many premiums have been paid. Once a policy becomes paid-up, the policyholder will no longer be eligible for subsequent bonuses from the insurer. However, he will receive bonuses up to the moment when the policy became paid up.

At a Glance:

1. You stop paying premiums.

2. The policy remains active.

3. The life cover continues until death of the insured or maturity of the policy

4. You or your beneficiaries receive the settlement when the insured dies or the policy matures.

So, which option should you choose? If you need the money immediately and do not mind foregoing life cover, surrendering may be a better choice. But if you are unwilling to forego life cover just yet, a paid-up policy will be your best bet.