Life is full of risks. Because of exposure to these omnipresent risks, regardless of how much precaution we take, we are bound to suffer losses. Now, there are many aspects to a loss. There is psychological loss and there is financial loss. Insurance covers only the financial aspect of a loss and not other aspects, but given that financial aspect is so important to all of us, insurance gives us great peace of mind by providing us with a replacement of the lost entity.
Life Insurance has been recognized as necessary and essential element in an individual’s or his family’s financial programs. It serves various functions such as Total Personal Financial Planning, Risk Management and Tax Planning etc. Traditionally insurance products have been associated with attractive returns coupled with tax benefits. The returns part was often so compelling that insurance products competed with investment products for a place in the investor’s portfolio. Perhaps insurance policies then were symbolic of the times when high interest rates and the absence of a rational risk-return trade-off were the norms. The subsequent softening of interest rates introduced a degree a much-needed rationality to insurance products like endowment plans; attractive returns at low risk became a thing of the past. The same period also coincided with an upturn in equity markets and the emergence of a new breed of market-linked insurance products like ULIPs.
ULIP is a policy, which provides for life insurance where the policy value at any time varies according to the value of the underlying assets at the time. ULIP is life insurance solution that provides for the benefits of protection and flexibility in investment. It can be viewed as a combination of insurance and mutual funds. The investment is denoted as units and is represented by the value that it has attained called as Net Asset Value (NAV).In today’s times, ULIP provides solutions for insurance planning, financial needs, financial planning for children’s future and retirement planning.
The premiums paid by customer are typically divided into expense and investment parts. The expense portion consists of the usual administration, sales, management and mortality expenses.
Now to be clear about how it works, the investment portion of the premium is invested in different financial market instruments. The risk and returns on these depends on risk and returns of the underlying instruments into which the investment goes. With the advent of investment plans or unit-linked plans, the choice to invest this part is now in the hands of customers. The investment portion value is described in terms of units. At the time of paying of premiums, the customer is assigned units with value equal to the value of the investment of the customer. The value of the units may go up or down on day to day basis. The unit value is described in terms of NAV. The customer can track the value of underlying fund based upon the value of NAV. Thus at any point of time the total account value of the customer policy is ( number of units * NAV).
In case of death of the customer, his nominee gets the Sum Assured or the value of the fund, whichever is higher. Thus, the investment plan or the Unit-linked plan gives a complete protection. Investors have the choice of enhancing their insurance cover, modifying premium payments and even opting for a distinct asset allocation than the one they originally opted for. Also if an unforeseen eventuality were to occur, in case of traditional products, the sum assured is paid along with accumulated bonuses; conversely in ULIPs, the insured is paid either the sum assured or corpus amount whichever is higher.
Now to decide whether ULIP is an investment or assurance.The features of investments are liquidity, return, safety, tax benefit, transparency and flexibilty. Well, ULIP meets almost all the features except liquidity. ULIP provides a handsome return. Along with the assured money, it provides the premium on money invested in the market.ULIP provides different fund options for the customers according to the risk profile.For example, if a customer initially chooses an Equity Fund for his investment portion and after some months expects a fall in equity market, he can shift his funds from an equity fund to a balanced or liquid fund. Also, the customer can invest in any combination of underlying fund options. Thus a customer can invest 20% each in the five fund options instead of choosing just one option. So, it provides enough liquidity as the investment option should be. ULIP guarantees the sum assured, along with that gives the option to invest the premium in liquid funds like bank deposits, Govenment securities and equities either fully or in combination of either of them. So, from security point of veiw, ULIP satisfies itself to be secure.With ULIP, the charge structure is transparent. All charges are listed separately and the balance premium, after deducting the respective charges, is used to buy units at the prevailing NAV of the funds chosen by the policyholder.So, ULIP is also transparent in dealing.ULIP is a very good instrument for tax planning. The customers can enjoy major tax benefits on the premiums paid for the policy. The premiums paid by the customers are exempted from Income tax under section 80C of the Indian income tax rules. Also, switches between funds in a unit-linked plan do not invite any capitals gains tax. However, ULIP does not meet the liquidity requirement, because it doesnot provide any return in initial 3 years on investment as initially the large amount of premium is deducetd as charges that includes marketing, underwriting,administration and fund management expenses. So, if the monetary requirement is about to emerge within 3 years, ULIP cannot be considered as an investment avenue. And along with the above features, ULIP provides as addition benefit of life coverage.
Hence, before opting for ULIP, first of all one should carefully assess his monetary requirement at different time spans. For example, if I am a married lady with a kid of 4years, my probable immediate monetary requirement can be accumulating money for a four wheeler(around $20k) for which i cannot rely on ULIP. However, ten years hence,I shall be needing money for building my own house(around $200k) . Further 14 years hence from now, i shall be needing money for my son’s higher education(around $50k). Thereafter,i may be needing money for my son’s marriage(around $100k) an so on. Now, when I am clear about my requirements I can plan what investment avenue best suits me. Second if one decides to go for ULIP, he should study the cost structure of the policies of various insurance companies.
From the above discussions, one can easily conclude that ULIP is an efficient instrument in achieving financial goals of anybody’s life. If you’re committed to investing for the long term, and are comfortable with the risks that come with unit-linked products, you should begin to look at this class of investments. Look at the cost structure, and look for consistency of performance among funds invested in the same asset class. Of course, you have the option to exit if things aren’t going too well, but exiting too early can also be a losing proposition since typically the costs are frontloaded in the early years. Use it like a brahmastarato be invoked not too early, not too late and you should well and truly lord it over your investments.