ULIPs, or Unit Linked Insurance Plans, allow you to combine investing and insurance into a single product. It provides life insurance as well as the ability to profit from the stock market, debt money, or both, as the case may be. Since its inception in 1971, ULIPs have come a long way. The Unit Trust of India (UTI) was the first to develop the ULIP in 1971, followed by the Life Insurance Corporation (LIC) in 1989.
How do ULIPs work?
ULIPs are products that combine a life insurance policy with an investment opportunity through a mutual fund into a single package. Because ULIPs are more closely related to insurance plans, your payments to these businesses when you purchase a ULIP plan are referred to as ‘premiums.’
A portion of your premium goes to the investment portion, which is the mutual fund portion: equity mutual funds, debt mutual funds, hybrid mutual funds, or whatever the case may be. Fund managers are in charge of your money. You can also move between several sorts of funds to create the most suitable ULIP strategy for you.
Lock-in period of a ULIP?
A five-year lock-in period is included with a ULIP insurance plan. ULIP, on the other hand, is a hybrid of a life insurance policy and a mutual fund, both of which are long-term investments that should be held for at least 15 years.
Costs associated with ULIPS
A ULIP plan is mostly comprised of five charges.
- Premium allocation charges: These fees are collected from your premium payment up front. An upfront deduction means that some money is removed as premium allocation charges before your ULIP investment is split between the insurance and investment parts. These fees cover the insurer’s costs associated with underwriting and selling the plan to you.
- Fund management charges: The insurer deducts these fees for administering the money in your ULIP plan, and the IRDAI caps them at 1.35 percent. Before arriving at the fund’s net asset value, the insurer subtracts the FMC.
- Mortality charges: The insurer imposes these fees in order to administer the insurance portion of the product. These fees are calculated based on the insured’s age, health, and the amount and length of the life insurance policy sought. The logic behind mortality costs is that the insurer thinks the insured will live to a given age before having to pay out the insurance policy. In the event that the insured does not live to the insurer’s projected age, mortality charges compensate the insurer.
- Policy administration charges: As the name implies, these fees are deducted to cover the insurer’s administrative costs associated with keeping your coverage.
- Switching charges: If you want to switch between funds in the investing element of ULIPs, your insurer may charge you. If you were previously involved in an equity fund and now want to switch to a different fund, such as a debt or hybrid fund, the insurer may charge a switching fee.
- Surrender charges: Premature withdrawals are subject to surrender charges, which vary depending on whether you withdraw before or after the lock-in period.
Types of ULIPs
The type of mutual fund linked with ULIPs determines how they are classified. There are approximately three types of ULIP funds:
- Equity funds: The majority of such ULIPs’ money are invested in equities or equity-oriented assets, such as stocks of various corporations.
- Debt funds: ULIP plans that invest premiums in debt or money market instruments, government securities, bonds, and other similar investments.
- Balanced funds: The premiums are invested in a mix of stock and debt market assets in this case.
- 4G or Whole Life ULIPs: A few life insurers have introduced new ULIP policies in the market, which offer lower fees and more modern features. As a result, they’ve been dubbed ‘new age ULIPs,’ ‘full life ULIPs,’ or ‘4G ULIPs.’ The abolition of return on mortality charges (ROMC) on maturity and premium allocation charges are among the features of these new-age ULIPs. This category aims to modify people’s perceptions about ULIPs and raise knowledge of the new customer-centric developments.
Risks Associated With ULIPs
The level of risk connected with ULIP plans is determined by the sort of fund that is attached to it. An equity fund, for example, is riskier than a debt fund, whereas a balanced fund spreads the risk across both stock and debt portfolios. The risk element will be reflected in the ULIP plan. When compared to other investments, ULIPs are also riskier. ELSS, for example, which also falls under 80 C, is a better diversified and less hazardous investment.
If you compare ULIPs to a solo insurance plan or a mutual fund product, you’ll see that the former has more risks. This is why. ULIPs’ cost structure makes it pricey, and it’s tough to achieve returns that will pay your costs while also allowing you to earn a profit. We might claim that the danger factor is higher with ULIPs because they are more expensive.
Tax benefits associated?
ULIPs investments are eligible for a tax deduction under section 80C of the Income Tax Act, up to a ceiling of Rs 1.5 lakh. Aside from that, under section 10 (10D) of the income tax act, the policy’s returns are tax-free upon maturity.
Pros and Cons of investing in ULIPS
Long-term goals: Because ULIPs have high fees and invest in equities, a ULIP product must be kept for a long time in order to reap the rewards of the markets. This means that ULIPs should only be considered if you have long-term goals in mind, such as buying a house in the future, marriage, children’s higher education, retirement, and so on, and liquidity is not an issue.
Switching: ULIPs allow you to choose between equity, debt, and mutual funds during the course of your ULIP plan, depending on your needs.
Tax benefits: While the investment in ULIPs is deductible under section 80(C), the policy’s returns are tax-free upon maturity under section 10 (10D) of the Internal Revenue Code.
Benefits of standalone plans: Even after accounting for the investment you make in each of them, all advisors agree that if you buy life insurance and a mutual fund plan separately, you have a much better chance of reaping the genuine advantages of both than if you buy a ULIP.
Returns are compromised at times: ULIPs may provide you with good profits because to the investing component, but the protracted succession of expensive charges might sometimes detract from those earnings.
Volatile returns: ULIPs returns are also quite erratic, but that is true of any investment with an equity component.
How does ULIP compare with other investment options under 80 C: Comparative analysis
|1.||Lock-in period||Five years||Three years||15 years|
|2.||Tax benefits||Section 10(10D) exempts 80C and returns from maturity policies.||80C||80C, as well as the maturity amount, are tax-free.|
|3.||Taxation||Depending on the underlying asset, gains are taxable.||Gains of more than Rs 1 lakh in any financial year are subject to a 10% LTCG tax.||None|
|4.||Underlying assets||Equity, debt, and balanced||Equity||Fixed-income oriented|
|5.||Risk (when compared to each other)||Highest among the lot||Not as risky as ULIPs||As it is backed by the government, it is considered risk-free and has guaranteed returns.|
|6.||Charges||There are at least five charges in ULIPs: Mortality charge premium allocation charge switching charge surrender charge policy administration charge||The expense ratio is usually between 1.05 and 2.25 percent. Few plans have an expense ratio of more than 2.25 percent, and some can be as high as 3% or higher.||One-time account opening charge of Rs 100|
Things to keep in mind before selecting a ULIP plan
The considerations you should make before investing in ULIPs are similar to those you should make before investing in any other instrument.
Finances and goals: First and foremost, determine how much money you have on hand and what you want to achieve with this investment. ULIPs should be considered for long-term life goals or other life goals that do not necessitate early withdrawals or redemptions. In that instance, the charges assessed will cancel out your gains or, in some cases, make them negative.
Risk appetite: Identifying your personal risk appetite will assist you in deciding which ULIP to pursue: A riskier investment than a debt fund is an equity fund ULIP.
Charges: It is critical that you conduct thorough research on the product and examine all charges in order to determine where your affordability lies.