A Unit Link Insurance Plan (ULIP) helps you to make a maximum equity investment. You can invest a portion of money in insurance (term and medical) as well. It is a feasible investment product. Here, you can claim tax deduction under Section 80C, of the Income Tax Act, 1961. The mix of investment and insurance gives you a greater return and security.
The goal of ULIP Plans is to offer wealth creation opportunities. It also gives you a chance to secure your future with a life cover. If you pay an annual premium above Rs. 2.5 lakhs, then the maturity proceeds are taxable according to the equity-linked mutual fund schemes. But this norm is applicable for ULIP policies you obtain on or after 1 February 2021.
Otherwise, the maturity amount is tax exempted under Section 10(10D). ULIPs are issued by private and public sector insurance companies. Offering this product required approval from the Insurance Regulatory and Development Authority of India (IRDAI) and the Reserve Bank of India (RBI).
In this post, we will discuss how ULIPs work, lock-in-period, types of plans, end-use of funds, the death benefit for policyholders, things to keep in mind for investment, reasons for investment, identifying best ULIPs, fees and charges, and how to track the scheme’s performance.
How Does ULIP Work? Is There a Lock-in-period?
The insurance company invests a part of the investment in life insurance. The remaining amount is then invested into a fund based on debt or equity, or both. So, you can opt for one that fulfils your long-term financial goals.
- Mostly, ULIPs are preferable investment products for retirement, higher education of children, or other important activities.
- The fund managers from insurance firms manage the investments. So, you do not have to personally manage the amount you put in ULIP plans.
- You can easily switch your investment portfolio between equity and debt.
- You can do so as per your market performance knowledge and risk appetite.
The lock-in period is 5 years. But as understood, insurance is a long-term investment. So, you may not get as much return as desired if you break the insurance policy early. Most of the policy tenure is at least 10 to 15 years.
Types of ULIPs, Use of Funds, Benefit for Policy Holders
Funds that ULIPs invest in are:
- Debt Funds: The premium you pay is invested in debt instruments. It has a relatively lower risk. But it also thus, offers a lower return.
- Equity Funds: The premium you pay is invested in the equity market. This is why the risk factor is also high.
- Balanced Funds: Here, the premium you pay is invested in the debt and equity market. It aids to lower the risk of investment.
The end use of the funds is usually for building a large corpus to meet financial goals. Or, people invest to secure their retirement days. In some cases, individuals also plan to fund their child’s education or other unforeseen circumstances.
There is a death benefit for policyholders. In Type I ULIP, the nominee receives a higher fund value or assured sum after the death of the policyholder. In Type II ULIP, the nominee receives the assured sum value as well as the fund value after the policyholder’s death.
Things to Keep in Mind for ULIP Investment
Here are a few things to consider before investing in ULIPs:
- Risk Factor: ULIP investments are not as diverse as ELSS (Equity Linked Savings Scheme). Thus, the risk factor of these plans is on the higher side, in comparison to schemes such as ELSS.
- Financial Goals: This plan works the best for wealth creation and saving enough for retirement. So, if this is your goal, choose ULIPs.
- Investment Return: The lock-in period is 5 years. If you surrender a ULIP in the first 3 years, the insurance coverage will stop immediately. So, if you want the surrender value, you will receive it only after 3 years.
- Compare the Offerings: You need to compare the ULIP offerings as per your financial goal. You have to also select the type of ULIP you want to invest in. So, do a background study of the expenses involved, market performance of the ULIP, nature of the funds, expected returns, premium payment, etc.
Why Should You Invest in ULIPs?
Here are the benefits of investing in ULIPs:
- Meet Long Term Financial Goals: You can fulfil your long-term financial goals with funds from ULIPs. As the investment is for a longer tenure, with at least 5-years of lock-in, the amount you receive can be used to purchase a car, house, child’s education, wedding, saved for retirement or invested further in other instruments.
- Income Tax Benefits: The premium you pay for a ULIP is applicable for tax deduction under Section 80C. Also, the maturity proceeds (according to permissible limits) are exempted from the income tax, under Section 10(10D). Thus, you can earn double tax benefits.
- Enjoy a Life Cover: You can couple the investment with a life cover. So, it adds up to security for the family, as there is a death benefit involved for the nominee.
- Diversify Investment Portfolio: You can switch between equity and debt-based portfolios as per your market performance knowledge and risk appetite.
How to Know Which ULIP Plan is the Most Suitable?
The market is full of varied ULIP products. So, how to select the one that is most suitable for you? Read further to know:
- Fund Type and Returns: As you already know, ULIP is categorized into three sectors – debt, equity, and balanced funds. Each one has a different structure for returns. So, keep a check on the fund beneath a particular ULIP choice. Also, understand how much return the fund can offer. Doing so will assist in knowing the best option for you.
- Total Cost of Investment: There are several charges involved such as mortality charges, fees for policy, fund management, premium allocation, surrender, etc. These charges are adjustable against returns. So, compare these charges and understand how much it will cost you to put money in a particular ULIP one. Then go for the one that you find affordable as per your financial goal.
- Payment of Premium: The payment options for premium may differ. Check with the provider for flexibility in payment frequency, and if it sets right with your finances.
- Frequency for Switching Portfolio: Sometimes, the provider can offer the option to switch for an unlimited number of times. Sometimes, the limit is numbered. So, go for the provider and ULIP product that offers a greater frequency of switching. This way, you can fix your investment decisions based on the performance of the funds.
- Loyalty Bonus: Choose ULIPs that provide additional units as a loyalty bonus. Some ULIPs carry this reward based on certain conditions. You can also avail the benefit by studying the investment product well before paying the premium.
ULIP Fees and Charges
Here are the different types of charges associated with ULIPs:
- Fund Management: The insurance firm imposes this fee to manage various funds in the ULIP. It is deducted before figuring out the NAV (Net Asset Value). The upper limit of the fund management fee is 1.35% per annum of the daily fund value. Usually, the provider levies a lower charge for non-equity funds, and the maximum amount on equity funds.
- Premium Allocation: There is a fixed percentage charge deducted from the premium you pay in the first years of the policy. The charge is at a higher rate and included in the initial or renewal expenses. Sometimes, it is recovered as an intermediary commission expense. Thus, it is a front load charge taken out from the premium payment.
- Partial Withdrawal: You can make up to 2 to 4 withdrawals on ULIPs. But some plans have no limits on the number of withdrawals. The withdrawal is either free of cost for up to a certain limit, or you may have to pay a charge based on the transactions.
- Mortality Charges: This fee is for insurance coverage. Mortality charges are based on the sum assured your age and other factors. This is deductible every month.
- Moving of Funds: There are charges for switching the funds. You can do so for no cost for moving funds up to a certain limit every year. After this, you may have to incur a few hundred rupees per instance.
- Policy Administration: There are charges for the administration of the policy. The amount deducted is as per a percentage of the premium or on a fixed rate. The fee is deducted on monthly basis by cancelling the units from the chosen fund.
How to Track Performance of ULIP?
There is two ways the tracking a ULIP’s performance:
- Absolute Returns: To know the absolute returns of a ULIP, then you have to know the initial NAV and current NAV of the scheme. This calculation method helps to know the ULIP performance for a plan you hold for a short time. The formula for calculation is = [(Current NAV – Initial NAV)/Initial NAV]*100
- Compounded Annual Growth Rate (CAGR): This calculation method is for the measurement of the investment’s annual growth over a specific time. The formula for calculation is = {[(Current NAV/Initial NAV)^(1/Number of Years)] – 1}*100
To Sum it Up
Investing in ULIPs comes with the double benefit of debt/equity/balanced funds investment, and life cover. You can switch the portfolio as per your financial goals. Also, you can save a huge amount of money on a long-term basis for different needs. You must understand your risk appetite and how much return you want from the scheme before you invest.
