by Rajbir - September 12, 2007 as published in Money Times and analysed by Krishna K Khandelwal (given in bold)
Unit Linked Plans were once hot selling plans of LIC and few other players in India. Especially after the abolition of separate sub-limits under section 80C or earlier section 88, for rebate, investor’s preference has shifted from conventional insurance policies to ULIPs. As for me, I have always been biased against taking insurance cover, though insurance policies have saved many homes from ruin after unfortunate premature death of breadwinner of a family. My main grouse against insurance policies is that they have not passed the benefit of increasing average age to the investor and it relies too much on exploiting social fabric and high incentives to agents to trick public into policies. (I beg to differ here, the mortality charges have become lower, and it was only until the LIC was in the field that it was keeping the rising age advantage to itself but the scene has changed. The HDFC Std Life Ins Co even has lower rates for women as they have low mortality as compared to men)
When mutual funds, IPOs, Post Office agents get no more than one odd percent of investment, why should insurance agents get something link upwards of 30% and sometimes touching 50% and then for life for every installment. This high incentive straightway hits return that an investor hopes to earn.( Here also the perception is misplaced, the insurance selling involves much more effort than selling a MF product or Post Office deposit. Further, apart from the extra effort involved in selecting a plan, the term and other riders according to age, the constitution of family, the income size and the job profile, the possibility of the proposal converting in to a policy depends on the medicals undertaken which involves cost for the company and if rejected, it costs to agent as well as the company without any gain. Besides the extra commission is for the initial year and only on premium from the first year and not for the rest of the policy period. In case of ULIPs of big-ticket investment in pension plans, the charges come to far lower percentage than even the MFs)
Even Unit Linked Plans are being sold to gullible investors as they net higher commission; still they are better than Pure Insurance Products. Here are a few key answers you must know before deciding about investing in these.( Both types of plans have some special features, actually the selection of capable adviser is a must otherwise 'Neem Hakim Khatarey Jaan' is true in case of insurance products.)
How it befools a consumer.
Unit Linked Insurance Plans typically are a mutual fund type investment where a part of the earnings is diverted towards insuring your life. (Again, the wrong impression, this covers two needs in a beautiful way. When your investment gets growing, the risk cover amount gets automatically reduced and the charges become low accordingly while the primary objective of provision for the family in case of unfortunate death of income earner is fully met)
Part of annual installment you pay comprises of annual insurance premium and balance is invested as mutual fund. Now as the returns on insurance are pathetically low, average returns as worked out by adding mutual fund return and insurance return work out to be better than typical insurance policy; and hence apparently such products appear attractive on the first instance. (There is an evidence that the MFs have not performed better overall than the Funds in ULIPs. Actually the MFs present before you the best performing schemes only and do not give investor the idea of the poor performing schemes which are far more in number than the good performing schemes where as the ULIPs have only one scheme in a category i.e. Growth, Balanced, Defensive and Secured etc and hence there is full disclosure available. The second reason is the size of MF schemes and a certain category of big investor getting advantage by moving out at crucial junctures and harming the others being privy to some information due to connections in side the MF organisation. You may recall as to how a big-ticket corporate investor moved out of Unit Trust's UNIT 64 scheme leaving others in lurch, which even raised a mini political storm too. This type of happening may not happen in case of insurance company products. Insurance companies have far more prudence being the long-term capital/asset managers)
You are not able to choose the type of mutual fund such as whether diverse of mid cap or debt fund etc. Then here the question comes, why not invest yourself part in mutual fund of your choice as SIP and part as insurance premium?( This is right , the ULIPs do not offer this sort of choice, those who are savvy enough in knowing the sectoral advantages and the scrip specific advantage may choose the routes of direct investing. However, it must be remembered that none of your investible funds should exposed to such risks. Supposing the death f income earner occurs just at a time when the market is down the loss will be very difficult to sustain even may make life of the family so orphaned very difficult and ULIPs keep you safe by this angle.)
At least you would be able to choose the type of fund yourself. The answer is Firm Yes! If you are a bit educated investor then do go for such arrangement. ULIP is for naïve investors and the ULIPs deliver average return only.( The switching between the funds is without cost or negligible cost and saving the fund value in uncertain times is a mighty advantage even for the market savvy investor. The tax advantage and saving of impact cost and time value of money in practicing it is again a valuable advantage. These advantages are just not possible with any other type of saving or investment scheme.)
These products typically come with a three-year lock-in period. A typical ULIP plan will have the following components: insurance premium towards your life and investments in different asset classes. Some ULIP plans now offer choice of plans as whether to invest only in equities or to invest in 70:30 equity and debt etc. The buyer is allowed a limited number of switches between the plans. (This is perfectly true)
Typically, in an ULIP plan about 25% of the premium is allocated towards insurance, commission of about 10% in first year (this gets reduced to 5 percent in later years), administration charges of 1.5 % percent are charged.( This very factually wrong, firstly the ratios given is wrong by a wide margin, these should be checked out first secondly without speaking for other companies , I may say that in ULIPs from the HDFC SLIC stable charge only 1% from the second year and/or third year and there fund management charge is also just 0.8% )
You need to understand following before subscribing to ULIP
1. Choose proper fund type before choosing a plan.
2. Before you decide no to pay a premium or plan to withdraw funds ensure that there is enough left to cover mortality charges and other administrative charges. The insurance cover may lapse without your knowing it.
3. Try to understand the fund management and return; believe me it is not going to be tough.
Take following precautions
1. Don't get taken in by past record of a particular scheme. Rather go by the fund manager. Past record of a particular scheme could be an aberration or may be the markets moved that way during a period.
Example; when markets rose by about 50% in 2006, any fund that gave just 50% annualized return should be counted as an average fund only and not a progressive one.
2. Don't buy a ULIP on the promise that you no longer have to pay your premiums after the third year and that you can withdraw funds anytime. (You do have the advantage of part withdrawals in UNIP with exception of UL Pension Plans and there is evidence that HDFC SLICs Growth Fund under ULIPs has beaten the benchmark index by a good percentage points through out its existence since Jan 04)
(The opinion in bracket is of Krishna Kumar Khandelwal, Certified Financial Consultant with HDFC SLIC)
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