Do you know these 10 facts about new ULIPs?

ULIPs stand for Unit Linked Insurance Plans. They offer a combination of insurance and investment and are offered by life insurance companies in India.

The Ugly Days

ULIPs have been a much hated product for most of their existence. So much so that they were considered highly toxic financial products. Here are a couple of reasons.

First, there have been several confirmed cases where ULIP policies were mis-sold to gullible investors with huge misrepresentations including but not limited to “you have to pay premium for just 3 years“, “guaranteed returns“. Several investors, including retired ones, put in their hard earned money only to realise that they were badly short-changed. They had got a product that fed insurance agents’ and sellers’ pockets.

Second, ULIPs had a very high cost structure including sales commissions of upto 80% and high surrender charges. There was very little transparency about investments and disclosures being made. The investors felt suffocated, as if they were put inside a closed dark room with no ventilation.

Time for change

With the popular media highlighting the dark side of the product, the regulator, Insurance Regulatory and Development Authority (IRDA), brought in guidelines in 2010 to curb several of these practices. It further issued fresh guidelines in 2013 to make ULIPs more transparent and less costly.

ULIPs have thus travelled far and today, the new breed of ULIPs deserves a fresh perspective. Let’s look at the key facts about them as also important tips that you should consider if and when you decide to buy one.

10 important facts about ULIPs that you must know

1. Type 1 and Type 2 – No, we are not referring to diabetes here but the 2 options that ULIPs offer. Type 1 ULIPs are those which provide you either the Sum Assured (insurance cover) or the Fund Value (the value of the investments) whichever is higher. Type 2 ULIPs provide both, the Sum Assured plus the Fund Value. Of course, the premium in case of Type 2 would be higher too.
   

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2. Super Tax benefits – ULIPs come with double tax benefits. One, premiums paid towards ULIPs are exempt upto Rs. 1.5 lacs under Section 80C of the IT Act, 1961. Two, all maturity benefits from ULIPs are also exempt from tax under Section 10 (10D) of the IT Act. But this is subject to certain conditions being met.
   

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3. Minimum Sum Assured – The tax benefits are applicable only if the Sum Assured  is 10 times of the annual premium in case of a regular policy or 1.25 times of a single premium policy. For example, if you pay a regular premium of Rs.1 lac per year, your Sum Assured has to be a minimum of Rs. 10 lacs. This is in case when your starting age is less than 45 years.
   

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4. Lock-in – All tax saving investments are subject to lock ins and ULIPs are no exception. They have a lock-in period of 5 years from the starting date of the policy. You can withdraw your money only after completion of 5 years. Even, if you discontinue paying your premium before 5 years, you will receive the pay out after 5 years.
   

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5. Multiple investment options – A ULIP provides you various investment options which you can direct your premium to be invested in. Most popular ones are Equity fund (where all money is invested into stocks), Debt fund (where all money is invested into bonds, government securities, etc) and Hybrid or Balanced Fund (a mix of Equity and Debt). You can select one or spread across all based on your risk appetite and time horizon.
   

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6. Loads of expenses – I had earlier written about the various expenses charged in a traditional insurance policy. ULIPs too have their own set of charges. These charges include Base Mortality, Premium Allocation, Policy Administration, Fund Management, Fund Switching and Surrender charges. All these are deducted by way of cancellation of your units. Fortunately, the charges are now capped by IRDA. For example, a policy from HDFC Life called Click2Invest boasts of an all inclusive charge of just 1.35%. (Note: This is not a recommendation.)
   

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7. Meets your Emergency requirements – In case of emergencies, you are allowed to partially withdraw money from your ULIP fund, but only after a period of 5 years from the start date. Additionally, if you are looking for a loan against security, then a ULIP comes in handy too. You can use it to receive a certain percentage of the value of the fund, generally not exceeding 50%, as a loan.
   

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8. Your Premium paid by the insurance company – Also called as Waiver of Premium, you can opt for this additional feature (also called rider) with your ULIP. What it does is that in case something happens to you (the insured), the policy does not stop. Instead the policy continues and the premium for the balance of the policy term is paid by the insurance company. On maturity, all the benefits of the policy are passed on to your nominees. However, when you opt for this rider, the insurance premium will be higher.
   

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9. Tax Free Rebalancing – From a financial planning point of view, you can maintain your asset allocation by rebalancing your funds into equity and debt in a proportion that is right for your goals. And, you can do this all without incurring any taxes. If you would do the same with individual investments, there could be taxes applicable. All you have to pay is a small fund switching charge.
   

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10. Top Ups – This is another interesting feature of ULIPs. You can put in additional money or Top Ups, over and above your regular premium and use it to add to your investment fund and the sum assured (insurance cover). You receive all the stated tax benefits on the Top Ups too.
    

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Important tips to consider before buying ULIPs

Now that we looked at the various features of the ULIPs, let us now consider some key things before you go ahead to buy a ULIP.

1. A ULIP should never be your first life insurance buy. Your first life insurance should always be a term plan or a pure insurance plan. A term plan should take care of your core insurance need. In fact, a ULIP should be the last thing to enter your insurance portfolio.
2. A ULIP should also not be your first investment for that matter. You will be better off buying mutual funds for your market linked investment needs.
3. You should be ready to pay premium and stay invested for the full policy term. That’s where you will likely see the ULIP delivering the most on its benefits.
4. Don’t buy a ULIP only for tax saving reasons. Yes, it helps to save taxes and the maturity proceeds too are tax free but first, it is important to understand if it fits into your financial plan. You may consider it for your long term goals like retirement.
5. Make a thorough comparison of various ULIP products before you decide to buy one. Put an effort similar to buying a smartphone or refrigerator or television. You could also use some help from your financial advisor.
6. Buy your ULIP policy online directly from the insurance provider. That would save you the commission expenses and yet provide all the policy benefits.

ULIPs definitely are making strides towards improvement compared to their earlier avatar and can emerge as a product that can find a place in the investor portfolios. But in comparison to other products such as mutual funds, it looks like they have a lot to prove yet.

Between you and me: Do you have ULIPs in your portfolio? When did you buy them? What is your experience? OR Are you planning to buy one? I would love to read your thoughts. Please do share them in the comments.