IPTM8210 - Conversion of a policy to paid-up under the terms of the policy

Meaning of conversion to a paid-up policy

Although the chargeable event legislation refers to a policy that has been ‘converted into a paid-up policy’ in defining the occasions on which chargeable events can arise on a qualifying policy - see IPTM7310 - there is no statutory definition of what is meant by a paid-up policy.

Nor is there a clear definition in the insurance industry of what precisely is meant by a ‘paid-up’ policy. Paid-up policy conditions can vary between companies and between types of policy, although the concept always includes the cessation of premium payments. Often, it can include a reduction in the minimum sum assured.

For the purposes of the chargeable event legislation, a policy is said to be ‘converted to paid-up’ when there has been a permanent cessation of premium payments, other than where premium payments have ceased at the end of the contractual premium payment term. There cannot be any possibility of resumption of payment of premiums.

It may be possible for a policy that has been converted to paid-up to allow other options such as switches of investment funds, although normally the scope for this will be limited under the terms of the policy.

Commonly, a policy is converted to paid-up under the terms of the policy through what is often referred to as a non-forfeiture clause because the policyholder ceases to pay the premiums due. A policy may also be converted to paid-up by exercise of an option in the policy by the policyholder, or by a variation in the policy terms, normally by agreement between the policyholder and the insurer- see IPTM8215.

Restarting the premiums on a policy that has been converted to paid-up would be a fundamental reconstruction bringing into existence a new policy, since by definition no further premiums can be paid on the original paid-up policy- see IPTM8065.

Automatic conversion to paid-up under the terms of the policy

The terms of a qualifying policy may provide that a policy automatically converts to paid-up if the policyholder does not maintain the premium payments, under a non-forfeiture clause. If so, conversion of the policy to paid-up is not a variation of the policy and has no implications for the qualifying policy status of the policy.

Conversion to paid-up under an option in the policy

Policies made before 25 February 1988 may have contained an option to convert a policy to paid-up. For policies made and certified post-25 February 1988, qualifying policies can no longer contain an option to convert to a paid-up policy. A policy being made paid-up will be as a consequence of non-payment of premiums.

Converting a policy to a paid-up policy is not treated as a fundamental reconstruction. As a consequence, it is possible for policies that contain an option to make the policy paid-up to be qualifying.

The effect on qualifying status of exercising the option must be tested at the outset in the normal way – see IPTM8175. This means that the option must only be capable of being exercised more than ten years after the later of when the policy was made and when it was last significantly varied.

Exercise of the option by the policyholder will not be treated as a variation of the policy and the policy will remain qualifying, however the application of the annual premium limit to the policy after the option is exercised must be considered – see IPTM2080.