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Five essential things to consider when choosing a ULIP

27 December 2016
Awareness is the first step towards making effective decisions. Appreciating all the nuances of a powerful financial product like a ULIP will help you to decide the perfect plan for you.

Unlike a pure insurance policy, a Unit Linked Insurance Plan (ULIP) gives investors the benefits of both insurance and investment under a single integrated plan. The primary benefit this offers is the administrative convenience of not needing to execute the two transactions separately.

But choosing the right ULIP according to your financial capabilities and future needs is essential to maximize returns. Here are the factors you must consider before you make your decision:

  1. Know your risk appetite and what the ULIP offers

Market risks on a ULIP’s underlying investments are the same as that of mutual funds or direct investments in equities / fixed income securities. This investment risk of the portfolio is borne entirely by the policy holder and will need to be monitored actively. Thus, you should ascertain your risk appetite, financial commitments and funding needs before choosing the appropriate plan.

The choice of plan will thus depend on your risk appetite. ULIPs come with a range of fund options to choose from depending on your needs and risk appetite. Ranging between Aggressive and Conservative, the fund options cater to varying risk appetites. On the Aggressive end, the funds are largely invested only in equities, thus improving returns prospects but increasing volatility as well. On the Conservative end, funds are invested in debt and money market securities for stable returns and low risk. In between, hybrid plans invest a portion (usually 40-60%) in equities with the balance in debt and money market securities.

  1. Premium payment options

ULIPs usually offer three options for premium payment. Make sure you choose a plan that offers you the option you are most comfortable with.

  • Single premium payment plan under which the premium for the entire plan is paid upfront as a lump sum
  • Limited premium payment under which you can choose a particular number of years to pay premium, for example 5, 7 or 10 and
  • Regular premium payment under which you pay it for the entire term of the policy.

Usually, under the second and third options, you can also choose how frequently you pay premium. Your options are to pay once a year (annual), twice a year (semi-annual), four times a year (quarterly) or every month (monthly). The option you choose should be in line with your financial capabilities to make regular pay-outs.

  1. Charges

Charges take away from the value that accrues to you as an investor, which is why it is important to know how much is levied on the fund value. Typically, a ULIP will be subject to minimal administration, fund management, switching and surrender charges.

When ULIPs were first launched, they suffered from a poor perception due to high premium allocation charges (deducted as a fixed percentage of the premium received, which is usually higher in the initial years of a policy) of around 20%. However, this has since been rationalized based on caps imposed by the IRDA. Fund management fee is capped at 1.35% per annum, which is as much or lesser than charges on Mutual Funds. Premium allocation charge has been capped from the fifth year onwards.

Related: ULIPs or Mutual Funds- where should you invest?

  1. Switching flexibility

An investor’s market view, time horizon, and risk appetite will determine the initial allocation but these change over time. ULIPs offer the flexibility of switching between the funds based on changes to each of these factors.

The number of free switches during a policy year, the cost of switches and the ease of switching are factors that are important evaluation points when choosing a ULIP.

Related: Switch Options in ULIPs

  1. Limitations & exclusions:

Since investment returns are not always guaranteed, it is important to know what will be the limitations and exclusions on the sum assured in case of death or permanent disability. The insurance aspect should thus be subject to the same due diligence and scrutiny as the investment aspect. To make this easier for you, here are 5 things you must know before you buy life insurance. What is an appropriate level of life insurance cover really depends on personal circumstances such as accumulated savings, extent of outstanding debt, numbers of dependents, etc. However, as a minimum, experts suggest purchasing insurance cover amounting to around 10-12 years of income.

Awareness is the first step towards making effective decisions. Appreciating all nuances of this powerful financial product will help you to decide which ULIP will grow your wealth.

Want to know a little bit more about life insurance? Check out this brief overview of Term Insurance policies.


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