What are the Methods of Distribution of Surplus?

The divisible profit is to be distributed amongst the policyholders and shareholders. The main problem is distribution of profit to policyholders. Two methods (i) Uniform Bonus Plan and (ii) Contributory Plan are assured while distributing the profit to policyholders.

Uniform Bonus Plan :

Under this method, a uniform bonus rate is given to all policyholders of a particular type. The bonus rate is based on the policy amount. For example, Rs. 25 per thousand on whole life policies has been declared as bonus. Thus, the only equity with this plan is the amount of policy. Higher the policy amount, higher will be the bonus amount to a policy.

The bonus rate is determined simply by calculating the total amount of divisible profit and multiplying it with the amount of insurance of Rs. 1,000 and again dividing the whole sum by the amount of insurance under participating policies, at the time of valuation. Thus the bonus per thousand can easily be calculated for a particular period.

Thus, this system is popular, simple and flexible, but it is not very much equities or it makes no distinction between policies on the basis of their contribution to the surplus.

However, some persons argued that taking the long term duration, it would be equities because in the early period of the policy when his contribution is smaller, he is getting higher amount and at the later stage when his contribution will be higher he will be getting lesser amount of bonus. Thus taking the total duration of policy, he is getting equal share of his contribution.

Contribution Method :

The essential principle of this method is that the divisible surplus should be allotted to the various policies in proportion to the individual contribution of each policy to the surplus.

The higher the contribution of a policy, the higher should be the amount of bonus declared on it. Since there are several sources of surplus, contribution of each source should be analysed. For this purpose two things have to be taken into account.

1. The contribution of a particular type of policy to the total surplus.

2. Contribution of each source of surplus of a particular policy to the total surplus is to be determined. Then, on the basis of the contribution of each policy, the surplus is allocated.

The calculation has been made simple by taking only three sources of surplus viz. Mortality, Interest arid Expenses savings.

This is called 'Three Factor Contribution Plan'. Sometimes, mortality saving is ignored and only two factors viz. excess interest and loading saving are taken into consideration for determining the amount of contribution of each policy.

This method observes mostly the equity principle. But in practice, the calculation is very hard and complicated. Therefore, it is not popular.