ULIPs vs Mutual Funds -Which is a better Investment Option?

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ULIP vs Mutual Fund

ULIP vs Mutual Fund + Term cover- Which one is better? If you Google these words, you are likely to come across a plethora of articles. This has always been a longstanding debate and various financial advisors and investors have had varied opinions on it so the best way to deal with this dilemma is to use the support of facts. In the following table we make apples to apples comparison between ULIP’s and Mutual Funds + Term Plans.

Unit Linked Insurance Plans Mutual Funds + Term Plan

ULIPs basically are very much like fund operated investment tools in which charges are deducted for operational matters and rest goes as investment in various funds.

Every ULIP thus has a cost linked with it.

  • Essentially they have insurance/ Life cover linked with it.
  • They provide transparency and flexibility as compared to other investment options in insurance segment
  • Triple tax benefit structure is applicable.
  • Initial tax is saved under 80C. So premium paid upto 1 lakh can save upto 30K depending on the tax bracket.
  • The final amount at maturity is tax free under section 10(10D). Thus the income is tax free for self as well as the nominee. 
  • The whole investment amount does not bear any service tax other than the mortality charge.

Mutual funds are again market linked products maintained by fund managers helping with investments in right instruments, thus helping in balancing risk.

Like ULIP, MFs too have cost attached. Term plan added brings additional cost.

  • Life cover is provided by the term cover (mortality cost turns out to be cheaper for a healthy, young, non smoker individual)
  • Transparent product. All costs are declared.
  • 80C is provided by specific schemes only. These schemes have a lock-in for 3 years essentially. Cost structure work differently for these schemes and are on a higher side.
  • Long term/ short term capital gain taxes are applicable.
  • Other than these tax saving ones, lock- in is not applicable


Coming back to returns & cost structure, let’s look at an illustration and decide. The figures below are for a 25 year old male investing Rs. 50,000 annually for a period of 20 years.
 

Amount Year MF @ 1.5% MF @ 2.25% Term ULIP (Aviva I-growth)
50,000 1 53190 52785 890 49,002
50,000 2 110584 109725 890 101,202
50,000 3 171639 169837 890 156,814
50,000 4 236589 233297 890 216,064
50,000 5 305684 300291 890 279,791
50,000 6 379186 371018 890 349,835
50,000 7 457378 445683 890 424,463
50,000 8 540559 524508 890 503,977
50,000 9 629047 607723 890 588,581
50,000 10 723180 695573 890 678,576
50,000 11 823319 788316 890 774,305
50,000 12 929847 886226 890 876,135
50,000 13 1043171 989588 890 984,453
50,000 14 1163725 1098709 890 1,099,674
50,000 15 1291971 1213907 890 1,222,237
50,000 16 1428399 1335521 890 1,352,610
50,000 17 1573530 1463910 890 1,491,290
50,000 18 1727922 1599450 890 1,687,972
50,000 19 1892163 1742539 890 1,903,464
50,000 20 2066883 1893598 890 2,139,564


In the long term, ULIPs take over Mutual funds in terms of return. There is a bigger picture though that needs to be considered. There is a much greater chance for the value of this ULIP to grow higher. In our case above, the return has been assumed at 8% market growth for ULIP. Let’s look at the cost structure to take a view clear of this assumption.

Year ULIP on premium paid MF + Term on premium ULIP on FV MF + Term on FV
1 9% 4% 10% 4%
2 11% 7% 5.35% 3.11%
3 12% 9% 3.92% 2.83%
4 14% 12% 3.21% 2.68%
5 14% 15% 2.58% 2.60%
6 12% 19% 1.75% 2.54%
7 14% 22% 1.67% 2.50%
8 16% 25% 1.62% 2.47%
9 19% 29% 1.59% 2.45%
10 21% 33% 1.58% 2.43%
11 24% 37% 1.57% 2.41%
12 27% 42% 1.55% 2.40%
13 30% 47% 1.55% 2.39%
14 34% 51% 1.54% 2.38%
15 37% 57% 1.53% 2.38%
16 41% 62% 1.53% 2.37%
17 45% 68% 1.52% 2.36%
18 50% 74% 1.47% 2.36%
19 56% 81% 1.47% 2.35%
20 56% 87% 1.31% 2.35%


Here it is clearly evident that the ULIP has higher cost in the initial 4 years post which MF plus term takes over.
Also, please note that term cover will have a constant life cover of 5 lakhs here throughout these 20 years whereas ULIP product has 5 Lakhs or Fund value whichever is higher paid out. Hence, in later years life cover of ULIP has decreased. There are few ULIPs (Typre II Ulip) which has a constant life cover too. Those have not been taken into account in this calculation.
Another point is that tax saving has not been taken into consideration in this illustration. ULIPS have a much stronger case in such instances. If you want a glimpse of this, simply deduct the tax saving from the premium you pay to get a glimpse of what that offers. The return is tax free as well.

Note that ULIPs have a lock in for 5 years. The regulators believed the risk may be too high in case policyholders decide to opt out of the policy in the initial 5 years. Thus this restriction has been put in place. In Mutual fund there is no such restriction. Policyholders can opt out any time they wishes to. However for someone who does not track market that often, this could turn out to be a very risky business.

In my opinion, the most valuable point offered by ULIPs is investment discipline. You know that you have to pay premium by due date in order to avoid the policy from getting lapsed. This will make you pay these premiums. Thus a regularized saving is ensured giving you a big corpus amount by the end. In Mutual funds there is no such restriction. You can opt for Systematic Investment Plans to keep up the habit of putting money aside. In case you opt out, there are no penalties involved.

What is SIP?

A systematic Investment Plan (SIP) is a simple and hassle-free mode of investment in mutual funds. In SIPs a fixed amount is invested at regular intervals of time i.e. quarterly, monthly or weekly. Systematic Investment Plans provide a planned approach to the investors towards investment and inculcate the habit of disciplined saving, so that they can create wealth and avail long-term gains on their investments.

How Does SIP Work?

As SIP is a simple and flexible investment option, the amount is auto-debited from the bank account of the investor and is invested in a particular mutual fund scheme. A certain number of units are allotted to the investors based on the ongoing net asset value (NAV). Every time one invests money, extra units of the plan are bought at the market rate and added to the investor’s account. One can gain attractive returns on SIP investments if he/she stays invested in the plan for a longer duration.

ULIP vs SIP: How are They Different?

                                     ULIPs

                                       SIP

  • A ULIP is an insurance cum investment plan.
  • A ULIP has a lock-in period of 5 years.
  • ULIP plans offer tax deductions under section 80C of Income Tax Act 1961. The premium paid toward the plan, up to the limit of Rs. 1.5 lakh, is eligible for tax deductions. The maturity benefit paid to the beneficiary is also eligible for tax benefits under section 10(10D) of Income Tax Act.
  • The premium of ULIPs is invested in different funds like debt, equity, stocks, etc. So investors can switch between various funds according to their requirement.
  • Add-on loyalty benefit is offered by issuing extra fund units.
  • ULIPs depend on market condition and are beneficial for long-term investments.
  • ULIPs do not provide any liquidity during the first 5 years of the policy. This means the amount invested in ULIPs cannot be surrendered or withdrawn during the first 5 years of the policy.
  • ULIP plans also provides insurance coverage
  • SIP is an investment instrument, wherein a specific amount is systematically accumulated in a mutual fund on a weekly, monthly, or quarterly basis.
  • An SIP has a lock-in period of 3 years.
  • Only investments made in ELSS is tax-free up to the limit of Rs. 1.5 lakh under section 80C of Income Tax Act.
  • An SIP does not offer the option to switch between funds. The investor can only withdraw the money after the completion of 3 years of the scheme.
  • An SIP does not offer any additional benefit.
  • SIP offers the flexibility to increase/ decrease the amount of investment and offers long-term returns to the investors.
  • An SIP provides full liquidity to the investors. The amount invested in SIP can be redeemed by the investors any time they want. 
  • SIPs are pure investment plans

 

So to summarize, one should look up to investing in ULIPs if they belong to any of these categories:

  • They have tax savings to do under 80C
  • They plan to invest longer than 10 years. 
  • Also, the above calculations have been done using ULIPs made for online purchase. These have a lower cost as compared to those available for retail sale offline. So buy an online ULIP to reap maximum benefit. 

    Happy Investing.