The Securities and Insurance Laws (Amendment and Validation) Bill, 2010

The Securities and Insurance Laws (Amendment and Validation) Bill, 2010 (“Bill”) was introduced on July 27, 2010 in Lok Sabha by Finance Minister Shri Pranab Mukherjee. It replaces the ordinance issued on June 18, 2010 to amend RBI Act 1934, Insurance Act 1938, SEBI Act 1992 and Securities Contract Regulations Act 1956 (“Ordinance”). The Bill clarifies that Unit Linked Insurance Policies (“ULIPs”) would be regulated by the Insurance Regulatory and Development Authority (“IRDA”) and not by the Securities Exchange Board of India (“SEBI”).

Background

On April 9, 2010, SEBI ordered that ULIPs are a combination of investment and insurance and therefore it can be offered/ launched only after obtaining registration from SEBI. The order stated that the investment components in ULIPs are in the nature of mutual funds which require registration with SEBI under section 12(1B) of the SEBI Act 1992. This order was been passed against 14 insurance companies which offered ULIPS to customers. IRDA disputed SEBI’s order and the matter was referred to the Supreme Court. Before the case was decided, the Government promulgated an Ordinance clarifying that life insurance business would include ULIPs or scripts or any such instruments. This brought a temporary end to the 2 months long battle between the regulators SEBI and IRDA, by giving IRDA the jurisdiction over ULIPs business.

Highlights of the Bill and analysis

The Bill states that ULIPs will be covered by provisions of the Insurance Act, 1938. Such policies are no longer ‘securities’ or ‘collective investment schemes’, as defined under the Securities Contracts (Regulation) Act, 1956 or the SEBI Act, 1992.

The Bill seeks to establish a joint committee, chaired by the Finance Minister, to resolve disputes between regulators over ‘hybrid’ or composite instruments. Such instruments are those which involve investments in the money market or the securities market, or have a component of insurance and which fall within the ambit of (a) Reserve Bank of India (b) SEBI (c) IRDA or (d) Pension Fund Regulatory and Development Authority. In addition to the Finance Minister, the committee shall consist of the heads of each the regulators specified above, as well as the Secretary (Department of Economic Affairs), and the Secretary (Financial Services) of the Government. Disputes over hybrid instruments can be referred to the committee by any of the regulators on it.

It should be noted that neither in the statement of objects and reasons of the Bill, nor in the explanatory statement accompanying the Bill, the Government has provided any reasons why ULIPs should be regulated by IRDA rather than SEBI. This silence becomes more relevant in the context of SEBI’s observation in its order dated April 9, 2010 banning ULIPs. SEBI observed that “In this regard I note from one of the products offered by one of the entities that for a sum assured of Rs. 15,00,000/- an annual premium of Rs. 1,50,000/- is collected for 10 years. The premium allocated for insurance out of this is Rs. 7500/- in the first year and Rs. 3000/- in subsequent years. (The annual premium for a term plan for 10 years for an identical sum assured for an identical life assured by the same company is Rs. 3,342/-) Here, the insurance component is 2% of the premium paid”. It simply means that in some ULIPs products the percentage of premium used to buy insurance is as low as 2% of the total premium, with the balance being invested in the securities markets.

A copy of the Bill is available here.

Ban on entry load effective from August 1st, 2009

Brief History
• Most equity mutual funds charge retail investors an entry load of 2.25% on their investments. This entry load is mandatorily payable irrespective of an investor's mode of entry.
• The total amount collected as load for each scheme, as per SEBI stipulations, has to be maintained in a separate account by AMCs and can be utilised to meet selling and distribution expenses. As per industry practice, the load is normally utilised for paying the agent/ distributor's commission.
• SEBI had earlier decided that there will be no entry load for the schemes, existing or new, of a mutual fund. The upfront commission to distributors should be paid by the investor to the distributor directly. Moreover, the distributors should disclose the commission, trail or otherwise, received by them for different schemes/ mutual funds which they are distributing or advising the investors.
• MF distributors are against this because its gives investors the right to negotiate commissions while buying MF products through them.
• MFs are against this because entry load helped it to meet selling and distribution expenses.

Ban on entry load effective from August 1st, 2009
Now, SEBI vide its Circular SEBI/IMD/CIR No. 4/168230/09 dated June 30, 2009 has given effect to this decision. The major points in this circular are summarized below: -
• There shall be no entry load for all mutual fund schemes.
• The scheme application forms should carry a suitable disclosure to the effect that the upfront commission to distributors will be paid by the investor directly to the distributor, based on his assessment of various factors including the service rendered by the distributor.
• Of the exit load or CDSC charged to the investor, a maximum of 1% of the redemption proceeds should be maintained in a separate account which can be used by the AMC to pay commissions to the distributor and to take care of other marketing and selling expenses. Any balance should be credited to the scheme immediately.
• The distributors should disclose all the commissions (in the form of trail commission or any other mode) payable to them for the different competing schemes of various mutual funds from amongst which the scheme is being recommended to the investor.

All these decisions are applicable to investments in and redemptions from mutual fund schemes from August 1st, 2009. New mutual fund schemes and Systematic Investment Plans (SIP) launched on or after August 1, 2009 will also have to comply with these rules.

A copy of the circular is available here.