Why not to invest in ULIPs

ULIPs and The Curious Case of Financial Alchemy: A Detailed Analysis

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These days, I am a favorite target of insurance agents and bank managers.

Reason: there’s a new born in my family and all these so-called financial planners are after my life to buy a random financial product as an “investment” in the name of the new born.

Somehow, the agents are too concerned about the future of my child (or their own future, I am not sure).

One such case is of ICICI Bank where my Relationship Manager (hereafter referred to as the RM) got to know about the newborn and offered me the ‘best ULIP plan’ to safeguard the future of my baby.

It’s her duty to educate the clients so that they take the best financial decision. Instead, these RMs and policy salesmen are offering poor advice that can rob their clients of their hard earned money.

Here, I will show you the flaws which the policy offered to me had, and how it makes no one but the insurance company wealthy, at the expense of the client’s money

[This also reminds me of this very famous book by the name of “Where are the Customer Yachts”. Check it out here on Amazon to understand the correlation between the book and my story.]

Before we understand this case of mis-selling, let’s have a look at the email from the relationship manager explaining the benefits of the plan which was on offer:-

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Why not to invest in ULIPs_2

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The Policy Details

It’s a ULIP plan where I have to invest a fixed sum per annum for the next 5 years.

In return, I am offered an insurance cover of 10 times the premium amount. The money goes in any of the 8 market linked funds stipulated in the plan.

The policy can be redeemed anytime after 5th year. There were few bonus clauses as well that pay you 0.25% of annual premium as fund units at the end of 5 years.

Pretty simple, hmmm? Pretty stupid I must say.

Reasons why I didn’t invest is such a stupid plan:-

Reason 1

ULIP is on of the most ‘confusing’ financial asset available in the market right now (from the perspective of the investor).

You don’t get the complete benefit of risk coverage neither you get the complete benefit of a mutual fund.

All you get is a sub-optimal return on your hard earned money.

And as Warren Buffett says – “It’s interesting that industry has invented new ways to lose money when the old ways were working just fine.”

ULIP is one of those new ways to lose your money.

[You may also like my book review of Gems from Warren Buffett]

Reason 2

The relationship manager suggested this product to me without understanding my current financial state and future goals.

She is not interested to understand the extent of risk coverage I already have (I mean the life insurance), which type of insurance I am carrying (a term insurance, endowment plan or a ULIP) and what’s my goal behind creating a new saving vehicle for my child.

She doesn’t inquire about the duration of my investment horizon but assumed it is for a period of 7 to 10 years (very considerate I must say).

 

Reason 3

For the long term goals, I would prefer to take higher risk (by participating in equity market via mutual funds or direct stocks).

I have the knowledge of these instruments, plus I am investing for a longer time horizon (18 to 20 years). That ensures I have enough time to ride through the market volatility.

Instead, the RM is offering me a balanced approach without understanding my risk appetite.

 

Reason 4

Giving her a benefit of doubt (that I am investing for 10 years), it’s gross stupidity on her part to suggest me ULIP rather than plain vanilla mutual fund (given that I have a high risk appetite).

I already have a term insurance plan of 1 crore.

It’s not logical that I pay for the insurance component of ULIP, that too for a meagre sum insured of 10 times the annual premium amount (I can bet the RM won’t even know why the sum insured is just 10 times of premium amount, why not 15 or 20).

 

Reason 5

And the best part of the sales pitch – RM said that this is a very prudent product. As market goes down, the fund manager will move the money from equities to debt. This will ensure my money is safe.

Again, given my risk appetite, that would be the last thing I would want the fund manager to do. My investment strategy is to buy more when the market goes down so that I average out on my purchase price.

 

Reason 6

Now comes the (bad) financials of the policy.

The policy comes with a premium allocation charges of 5%.

That means 5% of my premium paid is straightway deducted by ICICI and not allocated to the fund, reason justified as the cost of allocating the money to the fund.

Fine, but isn’t 5% too much?

Policy admin charges stand at INR 4200. Again, some administrative charge which happens to be a fixed cost and gets eaten away from the premiums I pay.

In addition, they will be levying fund management charges and mortality charges (the price of insurance component which I assume should amount to around 1,500 Rs. for sum assurance of 10 lac rupees).

In short, if you are investing an amount of INR 100,000 per annum in this plan, your money invested into the fund would be 100,000 – 5,000 – 4,200 – 1,500 = ~89,000.

Can you see the game here?

Out of 1 lac premium paid, INR 11,000 goes directly in the pocket of the insurance company, and this is my very conservative estimate.

I am sure there would be some X,Y and Z charges which would be disclosed to me only after the policy has been sold.

The worst part, in the entire pursuit my insurance coverage is a paltry 10 lacs (1 lac * 10).

In my opinion, it’s an ethical fraud to mix insurance with investment, eating away a fat part of the premium from investor’s money but still claiming the product to be the best in class.

It would be preposterous to invest in such a product.

 

So what’s the alternative to ULIP then?

The alternative is to buy an online term insurance plan of at least 10-15 times your annual income.

Remember, it’s the child that needs financial security, so you have to buy the term insurance with you as the life assured. And make your spouse the policy beneficiary.

[Compare the best available Term Insurance plans on Policy Bazaar here]

(Ideally, you should have the term insurance even before you had your child).

At the same time, invest in a direct plan of a good mutual fund with a long term horizon of 15-18 years (I am investing for my child’s education here).

[Read my review of the Best Online Platforms to Invest in Direct Mutual Funds]

That way, you get hell lot of insurance coverage, plus you are not limited by the mutual fund choice.

 

This is what I finally did?

I already have an online term insurance plan with Aegon that covers me up for 1 crore.

After the birth of my child, I have made my wife the nominee of my policy (earlier it was my mother).

At the same time, my financial advisor (yes, I do take the help of the team at JagoInvestor for expert advice) suggested me a mutual fund to support my long term goal of child education.

The entire corpus which I received as cash gifts from friends and family was invested in that mutual fund.

 

Conclusion

Never ever fall in the trap of an investment plan masked as life insurance. In the end, you lose on 3 fronts: investment, insurance and returns.

Did you face a similar situation where you were sold a ULIP to meet a long term life goal. What has your experience been, and do you think you were sold a wrong product?

If yes, do write your thoughts in the comment section below.

 

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Tushar Jain

Tushar Jain

Tushar Jain is a personal finance enthusiast who loves to talk about money, savings, investments and spending. He blogs about financial wisdom and income growth habits at this blog jaintushar.com. Contact him to say Hi.

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2 thoughts on “ULIPs and The Curious Case of Financial Alchemy: A Detailed Analysis”

  1. I am invested in both Equity MFs as well as ULIPs. I found out ULIPs to be equally as good as MFs I have invested in. They both are giving same returns approximately. Though it has been a very short time of around 2 years.

    I am still not sure but there is no significant loss other than the charges you pay while having a ULIP

    • Hi Saket
      Check the premium paid vs the amount invested in your ULIP fund. The difference in investment is your principal loss, plus the return you could have earned on that principal is your interest loss. Eventually, the ULIP fund will give a return just like a mutual fund. The problem is the huge expense you pay to get that return. When you invest in mutual funds, you don’t bear those humongous expenses. Add to that, the paltry sum assured you get when you invest in a ULIP.

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