Cost Is The Key

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Cost Is The Key
Cost Is The Key
Illustration by Saahil
Nirmala Konjengbam - 06 February 2021

With their low-risk and high-return possibilities and easy switch options, New-age Unit-Linked Insurance Plans (NULIPs) offer a great solution to investors who worry about volatility in the market and prefer to hedge their investments. Targeting the new fourth-generation or 4G population and lure them to start early on their investment journey, NULIPS have greatly reduced most charges, including premium allocation, policy administration, fund management, and mortality. Most insurers have capped the fund management charge at 1.35 per cent of the fund’s value. This is deducted before computing the net asset value of the fund. Nowadays many insurance companies are also returning the mortality charges at the time of maturity. Hence these tax-saving investments are also offering a good value for your money.

It is but natural for any reduction or abolition of charges to sow doubts in the minds of potential investors on the feasibility of the plan or the insurer. After all, there’s never a free ride and someone has to pay for all the discounts and sops.

Casparus Kromhout, MD and CEO, Shriram Life Insurance, rightly points out, “Waiver of charges would lead to an increase in return for ULIP holders but that would also reduce the income components of insurance companies.”

A layperson cannot fully comprehend the functioning of these financial instruments. Therefore there is a brewing concern of hidden components insurers might levy to compensate for the reduction in regular charges. Allaying fears, experts, however, stress that these are transparent investment options.

“ULIPs are transparent investment avenues with regular and clear reporting or disclosures. All charges are transparently declared in the account statement and other ULIP documents like prospectus, benefit illustration, or brochures, which are easily accessible by any investor,” explains Sampath Reddy, Chief Investment Officer, Bajaj Allianz Life Insurance. It is important to note that ULIP has long enjoyed an advantage over mutual funds for its potential to build a fortune along with a life insurance cover. A part of its premium is used for life cover and expenses like fund management, while the remaining is invested in equity, debt or hybrid (mix of both debt and equity) funds, depending on what you opt for.

However, in the past, despite its advantages, ULIP struggled to gain popularity, largely due to multiple charges levied on the premium. Insurers would often deduct these charges before allotting a specific number of units to the policyholder.

The Insurance Regulatory and Development Authority of India (IRDAI) recently took multiple steps to make it attractive. In 2019, the regulator announced that the minimum sum assured, for people buying ULIPs below 45 years, would be reduced from 10 times to seven times the annual premium paid. This reduction in sum assured led to lowering of mortality charges, paid towards the life cover in ULIP. In other words, the relentless push by the regulator to sustain a cut-throat market competition has helped insurers significantly reduce various charges.

As Reddy recalls, “Favourable regulations and market dynamics have led to new-age ULIPs becoming investment-friendly (with lower charges), thus making them competitive with other peer investment or savings vehicles. Ultimately, with lower charges and various tax advantages enjoyed by ULIPs (due to their long-term orientation), the net return in the hands of the investor after taxes and charges improve.”

Additionally, the digital revolution has only aided insurers in bringing down charges. The premium allocation charge, for example, is a commission paid to agents. With the online sale, this charge has come down to zero. Similarly, the insurers’ operational costs too have come down, leading to a further reduction in policy administration charge.

Market forces have had no less contribution. Intense competition among wealth creation instruments has compelled insurers to minimise charges. And lower charges only mean a larger amount is invested in the policyholder’s fund.

Performance Cycle

Just like mutual funds, ULIPs have various categories of funds across different asset classes – suiting various investors, based on their investment objective, risk profile, and investment horizon.

Claims Suresh Agarwal, Chief Distribution Officer, Kotak Mahindra Life Insurance Company, “In a ULIP, the fund allocation is as per the customer’s choice. There is a wide range of funds available in unit-linked products, ranging from pure equity and pure debt funds to specific sectoral and hybrid funds that invest in both equity and debt instruments.”

Which Funds To Choose

Equity funds are considered to be riskier owing to their exposure to market securities. But they also deliver high returns over the long run. Debt funds, on the other hand, are of low risk, investing in the debt securities. But they also offer lower returns than equity.

Hybrid funds provide a common ground by investing in both equity and debt. This helps in spreading the risk while ensuring a healthy return.

“It is advisable for the policyholders to review their respective risk appetite and select the funds accordingly. Equity and hybrid funds are expected to outperform in the medium (three years) to long term (over five years). Debt funds will perform in the longer run (over seven years). The selection of fund types should be done after consulting an investment advisor,” cautions Kromhout.

If you invest early for a longer tenure, you can opt for a majority of equity funds. However, as your ULIP inches closer to maturity, it is safer to bring down the equity portion. This is to offset any kind of volatility. Gains can always be transferred to other funds. It is important to note that most insurers allow policyholders to switch their funds multiple times. No extra charges are levied for this.

Think Before You Buy

Some important aspects to be kept in mind before delving into ULIPs:

Know Your Appetite

If you are a risk-averse, opt for debt funds over equity. Even hybrid funds can help.

Investment Time Horizon

Invest longer for better returns. As Kromhout mentions, “ULIPs are meant to generate better returns over the long term by getting exposure to the secondary markets. To reap the real benefit, it is advised to stay invested for more than seven years.”

Tax Benefits

ULIP premium qualifies for a tax deduction under Section 80C of the Income Tax Act. The maturity benefits are also tax-free, unlike equity. However, keep in mind that the premium should be lower than 10 per cent of the sum assured. No tax or charge is imposed on the switching of funds within a ULIP.

Lock-In Period

This instrument comes with a minimum lock-in period of five years. You cannot withdraw the value of the fund before. Also, opt for suitable riders to enhance the protection element. This can benefit you.


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