To know if the insurer is financially strong, one should check for the solvency ratio of the insurance company as it is a vital thing to consider before buying insurance.
The solvency ratio defines how good or bad an insurance company’s financial situation is on defined solvency norms.
How is solvency ratio calculated?
According to Irdai guidelines, all companies are required to maintain a solvency ratio of 150% to minimise bankruptcy risk. Solvency ratio helps identify whether the company has enough financial buffer to settle all claims in extreme situations. Hence, it is a good indicator of an insurance company’s financial capacity to meet both its short-term and long-term liabilities.
The solvency margin is calculated by comparing a company’s obligations to its current assets. To put it another way, the solvency ratio is computed by dividing a company’s after-tax operating income by its debt liabilities.
Solvency Ratio = (Net Income + Depreciation)/Liabilities
SOLVENCY RATIO OF LIFE INSURERS(FY 2020-21)
Source: Irdai Annual Report 2020-21
Why solvency ratio is important
The solvency ratio is one of the various important factors one should consider while buying an insurance policy.
“Insurers receive hundreds of claims from their customers regularly. To process all these claims and pay the monetary benefit to the beneficiaries, the company needs to be financially stable and have adequate funds. The solvency ratio is a simple indicator to know how good or bad the financial strength of an insurer is. An insurer with a high solvency ratio has more chances of fulfilling its commitment of paying your beneficiary the sum assured in case of your demise,” states the Aditya Birla Capital website.
“By reviewing the solvency ratio of a potential insurer, you can raise the likelihood of your claims being settled even before you purchase the life insurance policy. Moreover, the solvency ratio of an insurance company can be the crucial factor that helps you determine which life insurance plan is a superior option,” Canara HSBC OBC Life Insurance stated on its website.
This ratio is available on each insurer’s website. Do make sure to finalise your insurance company after checking the solvency ratio.