Before the global economic crisis struck in mid-2008, it was the heyday of the Unit Linked Insurance Plan (ULIP). Insurance agents were promoting these plans as being the perfect balance of insurance, investment and tax savings. Naturally, this happy mix convinced many people to purchase ULIPs. The promise of insurance coverage coupled with higher gains was too good to refuse. The ever-dependable term life insurance paled in comparison.
However, the appeal of ULIPs has faded somewhat in recent years. While the years between 2005 and 2007 brought heavy gains to ULIP holders, the market slowdown has since reduced the growth potential of ULIPs considerably. As a result, many ULIP holders are looking to exit these policies in favour of more profitable investment options like mutual funds. Such policyholders look forward to the end of the lock-in period (three years for ULIPs bought before September 2010, five years for those bought after) to discontinue their ULIP. But is this a good idea?
Costly in the Early Years
The ULIP agent may have promised that you could exit the policy with sufficient gains after three policy years. However, on checking with the insurer, you learn that discontinuing the policy even after three years is not financially viable.
The problem is that most ULIP policies – especially those from the pre-2010 era – are front-loaded. This means that in the initial years, a larger chunk of the premiums is diverted into agent’s fees, fund management fees, mortality charges, policy administration costs and other such charges. Only a relatively small amount is available for investment. Hence, the returns are likely to be low. Plus, there is the hefty exit penalty. All this makes discontinuing ULIPs after three years a financially impracticable step. Post-2010 ULIPs offer a cap on surrender charges – a benefit missing in the older ones.
Long Term Gains
Many customers assume that ULIPs are a valuable investment option. This is a mistake. Insurance cannot compete with investment products in terms of capital gains. Yes, it encourages you to save. But it cannot promise high returns on your capital; that is not its objective. What it does is to promise you financial risk coverage following the policyholder’s death or maturation of the policy. Thus, an insurance policy only works out in the long term.
Thus, it is advisable to continue the ULIP even after three years. You stand to gain much more on your cost if you see the policy through to the end of its term. This is because more funds will have been diverted into investment avenues and will have more time to bear fruit as well.
ULIPs purchased before 1 September 2010 have the added benefit of cover continuance. Thus, customers who opted for this will receive the sum assured (minus insurer deductions) even if they default on premiums following the end of the lock-in period.
To Switch or not to Switch
A dissatisfied ULIP holder may be tempted to switch to a newer ULIP or to mutual funds and a permanent life insurance policy. However, it is more advisable to stick it out. Switch only if current costs outweigh long-term advantages. However, before taking this step, make sure to compare the costs of various investment and insurance products extensively and take into account the surrender value of your ULIP.
