ULIPs De-mystified

Unit linked Insurance plans (ULIPs) are increasingly becoming popular with the investors. Of the new insurance plans sold during 2006-07, ULIPs accounted for 57% of them. Private insurers have been aggressively marketing ULIPs. Although ULIPs may be seen as a product akin to mutual funds, since they are sold by insurance companies they are to be treated as exotic insurance products, regulated by the insurance regulator IRDA. Let us try to unravel the mystry behind ULIPs:

• What are ULIPs: ULIPs are essentially Term insurance plans with an add on investment option. ULIPs retain a portion of the premium towards risk cover and invest the balance in a mix of equity/ debt instuments. Being treated as an insurance products they are also entitled to tax benefits under section 80C of IT Act.
• Flexibility: ULIPs offer more flexibility as compared to the traditional Insurance plans, where your money is mostly invested in debt. ULIPs allow the investor to choose an investment plan according to his risk appetite. They are thus structured as long term wealth creation products. Additional benefits available on a ULIP are riders to cover accidental death, medical insurance; and the facility for top up (additional investment) under the existing plan.
• Charges: Generally, ULIPs levy charges in the shape of fixed upfront charges, as compared to Mutual funds where the the fund management charges are back ended. Thus the explicit costs in case of ULIPs are recovered in the initial years of the policy term. ULIPs may charge more than 30-40% of the premium as administrative costs in the inintial years, however, these charges reduce to about 1% by the 5th year. On the other hand, Mutual funds charge 2-2.5% as fund management expenses on an ongoing basis. Over a 10 year period, ULIPs are able to catch up with the returns vis-a-vis mutual funds, due to low recurring costs. It is, therefore, advisable to hold on to ULIP investments for long term.
• Investment Risk: Traditionally, life insurance is seen as a risk mitigating proposition. Mixing investment with risk coverage may sound funny to some, as ULIPs expose the individual to a disproportionately higher risk as compared to pure term insurance. Ideally, a pure term insurance plan is suited to your insurance needs, but since an insurance agent gets a very low commission on term plans they are seldom promoted by them.

Considering the above facts, if you have decided to go for a ULIP policy, try to understand and evaluate the following facts before acting:

• Administrative Charges payable
• Amount of death claim payable
• Exit charges payable
• Partial withdrawals allowed
• Flexibilty of Switching between plans
• Don't get lured by fancy returns promised by your advisor.