Picking up the Right ULIP

It isn’t exactly unheard of these days to be pestered by calls from insurance agents. Often the agent’s head over heels attempts to fish you signing up for their policies leave you with unsuitable policies, heavy premiums and a lot more frustration. However, investigating and deciding by self-study is a hassle too when the options are in loads. As with the other sectors, the insurance sector is being pervaded by newer and more inventive instruments and unit linked insurance plans – popularly known as ULIPs. ULIPs aren’t typically the new kids on the block, having being around for a while now but the buoyant markets during the boom period and tales of an impending bull run, have brought them back in fashion among insurance products.

Why ULIP?
As an investor, you may quite naturally and justifiably have many questions about ULIPs. You may want to know why should you invest in a ULIP at all? Kamesh Goyal, CEO, Bajaj Allianz says, “I think the most beneficial advantage of a ULIP is that you can have investment and protection through a single instrument.” The operating principle of a conventional ULIP is simple. When you pay your premium, a portion is deducted towards the policy expense. Then, a part of it goes towards sum assured whereas the rest is invested according to the theme of the fund. The investment is visible to you in the number of units you own and the value of each unit, called as Net Asset Value (NAV). This is the variable part of the policy and often exposed to the equity markets. The manner in which the variable part is invested depends on the theme of the fund. For the sake of understanding, we can broadly classify the funds in three themes: aggressive, mixed and defensive. Aggressive funds are poised for aggressive growth characterised by high exposure to equities – usually over 60 per cent. For this reason, they are also risky. Mixed funds are less exposed to equities than the aggressive ones, however they still provide fund growth in the long run. The defensive funds have little or no exposure to equities.

The other reason for ULIPs being in vogue is that they offer extra features that traditional insurance products do not offer. Yateesh Srivastva, Chief Marketing Officer (CMO), Aegon Life Insurance informs, “Most ULIPs are rich in features such as allowing one to top-up or switch between funds, increase or decrease the protection level, or premium holidays. For example, some features automatically rebalance your investment allocation in various funds to the allocation proportions chosen, at the end of each policy year.” Riders are additional benefits that you may buy along with your policy. Riders extend the cover in events like hospitalization, illness or skipping a premium. The other popular feature of ULIPs is top-up. Top-ups are irregular cash dumps in your ULIP. This extra amount post deductions is invested and in many cases increases the value of your cover too.[PAGE BREAK]

IRDA Stipulations
As the numbers of ULIPs and their features and variations have increased they have started resembling other investment instruments and IRDA has come up with guidelines to regulate this proliferation. IRDA has prescribed a minimum sum assured equal to 50 per cent of the total annualised premium during the entire policy term or five times the annualised premium, whichever is higher. This regulation is aimed at maintaining the basic characteristic of a life insurance policy, where life cover should be the primary benefit. It has also placed a minimum three year lock-in period on withdrawals. However, Goyal thinks that these are areas where things could begin to change soon post-reforms. “I think for the insurance sector most of the regulations are part of the Insurance Act. So even IRDA is not empowered enough to make changes. As a part of reforms, we expect that IRDA to be further empowered. We also hope that the FDI limits are increased to 49%.”

Choosing The Right ULIP:
There are several aspects which investors should look at before investing in an ULIP scheme. Here are a few tips to help select the right ULIP:

Assessing Your Requirement And Risk
Before you approach an insurance agent or any broker, you must first assess your insurance needs. What kind of a cover are you looking for? Are you prone to any particular hazard due to your lifestyle? Or you may have already been covered by a conventional insurance product but feel to extend the cover. Would you like your premiums to increase or decrease as the policy proceeds? These would be the questions that you need to answer. Once you are clear with this, you may then approach a broker. You should ideally prefer to buy insurance from a broker than an agent. A broker usually offers products from many different companies and hence would be in a position to provide a relatively unbiased advice. Agents, on the other hand, subsist on the sale of products of a particular company. The expediency of making a sale usually brings in a bias and they may insist that their products are the ‘best in the market’.[PAGE BREAK]

Understanding The Expenses
As with any other financial instrument, it is necessary that you understand your product. Srivastva says, “Investors should understand all the charges levied on the product over its tenure, not just the initial charges. A complete charge structure would include initial charges, fixed administrative charges, fund management charges, mortality charges and spreads, and that too, not only in the first year but also through the term of the policy.” High charges mean that lesser amount is invested leading to lesser returns.

Typically the charges are:

Premium Allocation Charge
This is the initial deduction made from your payment before units are allocated according to the guidelines of the policy. This charge varies from policy to policy but in some cases can be as high as 40 to 60 per cent. This charge also tends to increase as the number of premium slices increase.

Mortality Charge
This is the cost at which insurance is being provided to you. This charge tends to increase along with the insured’s age. The typical deduction is in the form of units cancelled per thousand sum assured. However, it may also differ. In some cases, this charge could be deducted from the entire sum assured right at the start or charged on the difference between the sum assured and the fund value on maturity.

Fund Management Charge
Fund management charges are levied towards the management of your funds and are deducted before arriving at the NAV of your fund.

Administration Charge
This is often a fixed charge deducted once or periodically from your policy.

Fund Switching Charge
This may be charged once and every time you opt to switch or swap funds, although most fund houses provide for a certain number of free switches. Usually four or five swaps are permitted but a certain amount is charged for any swap thereafter.[PAGE BREAK]

Surrender/ Penalty Charges
These are the charges that you pay when you surrender the policy before it matures. These are even charged on partial withdrawals in some cases.

This is obviously pretty long list of charges. However, Srivastava thinks that these charges are necessary to improve the service to the customer, “Much of the administration charges are meant for compensating the distributors and supporting the sales infrastructure. It is important that the distributors are compensated adequately so that the right quality of professionalism is brought into the system. A life insurance policy, which is positioned as a long term product, such professionalism in distribution system adds value to the customers on an ongoing basis through engagement between the distributor and customer.”

Ensuring A Minimum
While the idea behind ULIP is investment along with cover, you should get exact information on the minimum amount that you get on maturity. This is usually the sum assured. As happened during the recent downturn, along with market, the value of many ULIPs eroded and that would prove highly inconvenient to you.

Participation
ULIPs could be either participatory or non-participatory. In the first case, you can choose to allocate the investment portion of your premium as you like. However, in the latter case, you have no say at all. If you feel you have the time and expertise to decide the allocation of your corpus, then you should opt for policy which allows room for such decision-making on your part. If not, then you should choose a policy where this is done by the insurance company for you i.e. a non-participatory ULIP. However, it is essential to note that in both the cases the risk is borne by you.

Payment Terms
You can choose to pay premiums in a lump sum or in instalments annually, biannually, quarterly or even monthly. There is a minimum amount in each case. You should get it established with the agent as to how the premium payment is required. Missing a premium would get your policy lapsed though insurers may give an opportunity for revival for a certain period. If premiums are missed substantially then cover may cease immediately and surrender value may be paid at the end of the renewal period allowed. In case you are concerned about missing your premium, you can opt for a policy that provides such a rider, which comes at extra cost.[PAGE BREAK]

ULIPs vis-à-vis MFs
ULIPs and mutual funds are both part of an active asset allocation. They do not compete with each other. Mutual Funds mainly cater to investments in the short to medium term and ULIPs mean long-term protection and savings. Yashmohan Prasad, HDFC Standard Life Insurance says, “ULIPs never offer disadvantage if one buys with the right mindset. One should not buy the ULIP with objective of a mutual fund. Their main aim is to provide life cover and their benefit is seen over long term and they become cost-effective over the long term. In the short run, ULIPs may not provide the flexibility and cost effectives of mutual funds.”

Tracking Your ULIPs
Your job is not over once you have bought a ULIP. It is advisable that you maintain a personal track of your ULIPs. The concern with ULIPs is that there is no data on past performance and not all insurers provide a track record of their funds. Although IRDA stipulates that insurers may provide data on past performance, it clearly states that the emphasis on past performance be minimised. Further, the disclosure of the portfolio is not mandatory as in case of mutual funds where SEBI has made portfolio disclosure mandatory.

Given the changing market conditions, a single kind of fund may not be suitable all the time and hence a good policy should provide for various funds types to invest. The other mark of a good ULIP is that it should allow you some gentle exit options in case of emergencies. While almost all insurers charge a fee on surrender of the policy, some insurers allow free surrender of policy beyond a certain period. A good ULIP also provides the option of topping up your policy at a nominal cost. A top-up is any extra amount you would pay over the premium for the sake of investment. In case of existing ULIP, using the top-up option would be better than buying yet another ULIP. The focus should also be towards extending an existing ULIP or reviving a lapsed one, if possible.