4 reasons why ULIPs score over endowment plans

Look at any advertisement for a life insurance product and chances are that it will be for a unit linked insurance plan (ULIP). Such has been the popularity of ULIPs in the recent past that they have outpaced the growth of regular endowment plans. We take a look at the most important reasons why ULIPs score over endowment plans

1. The power of equity
Simply put, ULIPs are life insurance plans, which have a mandate to invest upto 100% of their corpus in equities. While individuals have the choice to shift between equity and debt (explained later in this article), several studies have shown that equities are best equipped to deliver better returns compared to their fixed-return counterparts like bonds and gsecs. And given the fact that life insurance is a long-term contract, equity-oriented ULIPs augur well for the policyholder.

2. Flexibility
While ULIPs offer the opportunity to invest upto 100% in equity, it is also true that ULIPs provide individuals the flexibility to shift to upto 100% debt. It is entirely upon the individual how he wishes to allocate his premiums between equity and debt. This is not the case with endowment type plans- individuals can’t choose their investment avenues and have to be content with the insurance company’s investment decisions which revolve largely around debt.

ULIPs are available in 3 broad variants: ‘Aggressive’ ULIPs, which invest upto 100% of their corpus in equities, ‘Balanced’ ULIPs which invest upto 60% of their corpus in equities and ‘Conservative’ ULIPs which invest upto 100% of their corpus in debt instruments and the money market instruments*. Individuals are free to decide where they want to invest their money. For example, individuals with an appetite for risk can invest their entire money in equities while conservative individuals have the option to park their money in balanced or conservative ULIPs.

* The percentages given in the paragraph above may differ across life insurance companies.

That apart, ULIPs also provide individuals with the flexibility of terminating/resuming premiums, increasing/decreasing premiums and paying top-ups (i.e. a one-time sum over and above the regular premium) whenever possible. These options are not available in regular endowment plans.

3. Transparency
For the first time, ULIPs introduced transparency into the manner in which life insurance products were being managed. This is something that was missing in conventional savings-based insurance products (like endowment/ money-back/ pension plans). To understand why we are saying this, one has to first understand the structure of traditional endowment plans. Traditional endowment plans have been opaque in more ways than one.

To begin with, traditional endowment plans have invested a sizable portion of their corpus in debt instruments like gsecs and bonds. The quantum of money invested is not known. Individuals do not have access to portfolios of endowment plans so they never find out how much money is in debt/equities. Add to this the fact that the expenses, which form a sizable percentage of the premium in the first few years, are also not clear and you have a situation where the individual is ‘investing’ in life insurance purely on the basis of faith and little else!

Unit linked plans brought transparency into the scheme of things. Today, if an individual wants to invest in a ULIP, he knows upfront what percentage of the premium is being invested, what are the charges being levied and where his monies are being invested. This is a welcome change for the policyholder. Another advantage ULIPs offer is that they enable insurance seekers to compare plans across companies and help him buy a plan that fits well into his portfolio. Also ULIPs disclose their portfolios at regular intervals, so you know exactly where your money is being invested.

4. Liquidity
ULIPs offer liquidity to the individual. He can withdraw money anytime he wishes to once the initial years’ premiums are paid. He will not be levied with any surrender charges i.e. he stands to get the full market value of his investments, net of charges, till date. This is unlike conventional endowment plans where individuals tend to lose out on surrender charges on surrendering their policies. Besides, part surrender is also allowed in ULIPs. Simply put, part surrender allows individuals to withdraw a part of their corpus and thus keep the policy alive, albeit with some adjustments. This helps individuals tide over a situation where they need cash but have few ‘liquid’ investments at their disposal.

So does this mean that it is the end of the road for endowment plans? Not quite! Individuals need to understand the de-merits of investing in market-linked products like ULIPs. The latter are susceptible to the vagaries of markets and can burn a hole in your portfolio over the short term. So if you can’t withstand that kind of volatility, equity-oriented ULIPs are not the right investment option for you. Insurance seekers would do well to take into consideration their risk appetite as well as their overall financial portfolio before taking a final call on ULIP investments. The ideal option is to have a prudent mix of endowment and ULIPs depending on your preference for either long-term growth or stability.

6 major facts abt Endownment Plans

Till private insurance companies started operating in India, endowment insurance plans were the most popular form of life insurance. After the onslaught of private insurance companies unit linked insurance plans (Ulips) seem to have taken over.

Last year, of the new insurance policies sold by private insurance companies Ulips accounted for around 90% of the policies. This though is not the case with the Life Insurance Corporation of India, endowment policies still form a major part of the insurance policies it sells. Given this, there are certain things that individuals should understand about endowment policies.

1. An endowment policy is a combination of insurance and investment: The life of the individual taking the policy is insured for a certain amount. This life cover is referred to as the sum assured.

A certain part of the premium gets allocated towards this sum assured. Some portion of the premium is allocated towards the administrative expenses of the insurance company selling the policy. The remaining portion of the premium gets invested.

2. An endowment policy may declare a bonus every year: The money that is invested generates a certain return every year. This return may be declared as a bonus. The bonus is typically generated as a certain proportion of sum assured or life cover as it is popularly known.

So if an individual taking the policy has a policy of sum assured Rs 10 lakh (Rs 1 million) and the company declares a bonus of Rs 50 per thousand of sum assured, then the bonus works out to be Rs 50,000.

3. The bonus declared is not payable immediately: Like is the case with a stock dividend or a mutual fund dividend which is payable immediately after it is declared, the bonus declared accumulates and is payable only when the policy matures or in case the policy holder dies.

4. The bonus declared does not compound it, only accumulates: Let us take the case of a 35 year old individual who takes a policy with a sum assured of Rs 10 lakh with a term of 20 years.

The premium for this would be around Rs 49,000 per year. At the end of the first year, the insurance company declares a bonus of Rs 50 per thousand of sum assured or 5% of sum assured. This amounts to Rs 50,000. This Rs 50,000 remains Rs 50,000 for the next nineteen years till the end of the policy. The same thing happens to the bonuses declared for the remaining period of the policy as well.

5. Since the bonus declared does not compound returns are low: Extending the example taken above, let us assume that the insurance company declares an average bonus of 5% every year. What this means is that every year on an average a bonus of Rs 50,000 is declared. So at the end of twenty years, the total accumulated bonus would amount to Rs 10 lakh (Rs 50,000 x 20).

Chances of an insurance company declaring an average bonus of more than 5% over a period of twenty years are very less. This is primarily because endowment policies largely invest in government securities and after taking into account the administrative expenses of the insurance companies, a greater bonus is highly unlikely.

So at the end of twenty years, the individual gets Rs 10 lakh of accumulated bonus and Rs 10 lakh of sum assured, making a total of Rs 20 lakh (Rs 2 million).

On this he has been paying a premium of Rs 49,000 every year. This amounts to a return of 6.39% per annum, which is not great. If the individual expires during the period the policy his nominee gets the Rs 10 lakh of sum assured as well the accumulated bonus till that point of time.

6. Take a term insurance policy and invest in the public provident fund: A better way out for an individual is to take a term insurance policy. A term insurance policy is a pure insurance policy.

If the policy holder dies during the period of the policy, his nominee gets the amount of the sum assured. If he survives the period of the policy, he does not get anything. Given this, the premiums on a term insurance policy tend to be the least among all insurance policies and they provide an adequate life cover.

A term insurance policy for a period of 20 years, for a 35 year old individual, would cost around Rs 4,600 per annum. So instead of taking an endowment policy it makes more sense to take a term policy of Rs 10 lakh.

The remaining money i.e. the difference between what needs to be paid on taking an endowment policy of similar sum assured and the premium on the term policy, can be invested in the public provident fund (PPF). The difference in the example taken here works out to Rs 44,400 every year.

If this is invested every year into the PPF, at the current interest rate of 8%, the individual is likely to accumulate Rs 21.94 lakh (Rs 2.194 million) at the end of 20 years, which is nearly Rs 2 lakh (Rs 200,000) more than Rs 20 lakh he is likely to accumulate in case of the endowment insurance policy. Also the bonus on the insurance policy is not guaranteed whereas PPF guarantees an interest of 8% every year.

Life after losing everything.

Here at Real Insurance, we strive to settle on insurance claims as quickly as possible. Claims from the recent Victorian bushfires were all handled promptly and have now all been finalized. But long after the job of the insurers has finished, people still struggle to return to the normalcy of their lives before fire takes away everything they own.

This was the issue discussed on the ABC 702 Drive program recently. Host Jennifer Byrne spoke with Petrea King from the Quest for Life Foundation about life after you lose everything. One of the most poignant stories was about Petrea’s own brother, who lost his home and all his possessions to fire. Petrea told how the insurance company rebuilt the family home, and all of the family’s possessions, but it still wasn’t the same. The floorboards that the family knew would always squeaked when they walked over them were new now and didn’t make a sound. The ‘rainy day’ trackies with the familiar hole in them were replaced with brand new clothes that just weren’t the same. And that favourite book with the characteristic rip on the front page was destroyed forever.

As insurers we can replace bricks and mortar, we can fill drawers with clothes and cupboards with plates and cups. If only we could replace memories, or those feelings which bring families together and make them feel at home.

What is Life Insurance?

Life insurance is a policy that you can take out to pay a lump sum in the event of your death or diagnosis of a terminal illness. The lump sum or cover amount will be paid out to your next of kin, family or a named person. This may be liable to inheritance tax if not placed in trust, but is free from income and capital gains tax.

In the event of a terminal illness an insurer will bring forward the payment of the sum assured to allow you to address any financial needs prior to your impending death. The definition of a terminal illness is that you have less than 12 months to live. When asked, ‘what is life insurance?’ the response is normally straight forward. The plan is designed to meet an individual’s financial concerns or needs at a time when they are no longer alive. This will ensure that the dependents or outstanding financial liabilities are protected. For most people this will be the provision of a cash sum to repay an outstanding mortgage. However, there are a sizeable number of applicants who are looking to provide a cash lump sum or income for dependent children. Should premature death occur most people would like to pass on the assets of their estate unencumbered that is without the restraints of having to sell assets to clear an outstanding liability. This will ensure that an estate is passed on intact. With regards to protecting dependent children most people have life insurance so that the hopes and dreams that they have for their children can be fulfilled even if they are not around.

Do I need Life Insurance?

If you take out life insurance protection or not is up to you. People take out life insurance cover for a number of different reasons; the main ones are, to cover outstanding debts, such as a mortgage or loans and/or to provide a lump sum to help provide for family being left behind. There will be other reasons why people take out a life insurance plan and really it is down to personal circumstances. Generally it is to provide next of kin, family or a named person a lump sum in the event of your death. The key points everyone needs to remember when asking themselves ‘do I need life insurance?’ is should the unfortunate happen and you pass away are you leaving any dependents/loved ones behind and how will they manage?

By taking out a life insurance plan you will be ensuring that at a time of great difficulty for those left behind you are taking away the stress and worry of how they are going to pay off any debts and/or be providing a source of income through a guaranteed tax free lump sum. Life insurance is relatively inexpensive; it is actually the cheapest form of protection available. The cost of protecting yourself with life insurance is based on a number of factors such as; amount of cover, the number of years it’s taken for, your age, gender, smoking status, lifestyle and health. By taking out a life insurance plan, for a small monthly premium, you are providing yourself with peace of mind that should anything happen to you your affairs and/or loved ones are looked after.

How long a term?

Secrets to determining how long you'll need coverage.

Agents like to talk about policies you can keep throughout your life. What they sometimes won't tell you is that you don't need life insurance coverage throughout your life.

The secret to buying a policy with the right term is figuring out how long you need to be insured. You start by estimating when your children will be out on their own and no longer in need of your financial support.

So if your children are 3 and 5 now, you'd probably want a policy that covers you at least until the youngest is 22, so that's about a 20-year term. But this depends somewhat on your age as well.

Say you also want to cover your spouse for your lost income until what would be your normal retirement age, 65, and you're only 35 now. Then you would want a 30-year policy.

Keep in mind that insurance gets very expensive as you leave your 50s. So you may pay more to cover yourself until 65, even if you lock in a level-premium, 30-year policy when you are 35. Coverage past age 70 or so may be unattainable.

Life insurance is not a substitute for a retirement plan. You want to plan so that you'll have enough to live on when you retire, and you won't have to keep paying insurance premiums.

There are exceptions, however. People who start families late in life, or who have complex estate-planning issues, may well have a need for life insurance beyond the customary retirement age.

One more thing: Steer clear of so-called mortgage insurance policies, which pay off the balance on your mortgage if you die. The problem is that you are paying for a steadily declining amount of coverage, as you pay down your mortgage. It's best to include the mortgage payments in your calculations when determining how much coverage you need.

Types of policies

There are two basic kinds of life insurance policies: whole life and term insurance.

Whole-life policies, a type of permanent insurance, combine life coverage with an investment fund. Here, you're buying a policy that pays a stated, fixed amount on your death, and part of your premium goes toward building cash value from investments made by the insurance company.

Cash value builds tax-deferred each year that you keep the policy, and you can borrow against the cash accumulation fund without being taxed. The amount you pay usually doesn't change throughout the life of the policy.

Universal life is a type of permanent insurance policy that combines term insurance with a money market-type investment that pays a market rate of return. To get a higher return, these policies generally don't guarantee a certain rate.

Variable life and variable universal life are permanent policies with an investment fund tied to a stock or bond mutual-fund investment. Returns are not guaranteed.

The other type of coverage is term insurance, which has no investment component. You're buying life coverage that lasts for a set period of time provided you pay the monthly premium. Annual-renewable term is purchased year-by-year, although you don't have to requalify by showing evidence of good health each year.

When you're young, premiums for annual-renewable term insurance are dirt cheap - as low as a few hundred dollars per year for $250,000 worth of coverage.

As you get older, premiums steadily increase. Level-premium term has somewhat higher - but fixed - premiums for longer periods, anywhere from five to 30 years.