Difference Between ULIP and Mutual Fund

Difference Between ULIP and Mutual Fund - Which One is Better?

Choosing between a Unit Linked Insurance Plan (ULIP) and a Mutual Fund depends primarily on your investment goals, risk appetite, and investment horizon. ULIPs combine life insurance coverage with investment opportunities, while mutual funds focus solely on wealth creation. Typically, mutual funds tend to offer better returns over the long term, but ULIPs provide the added advantage of insurance protection alongside investment growth. To decide which suits your needs best, it is essential to understand their features, benefits, and differences in detail.

What is a Mutual Fund?

A mutual fund is an investment product that collects money from multiple investors—both individuals and institutions—and invests it in a diversified portfolio of securities such as stocks, bonds, debentures, and money market instruments. An Asset Management Company (AMC) or fund house, which operates various schemes based on different investment objectives, manages the fund.

Returns generated from the fund’s portfolio are distributed among investors, known as unit holders, proportionate to their holdings. Investors pay a small fee called the expense ratio for fund management. Mutual funds can be invested in via two modes:

• Systematic Investment Plan (SIP): Investors contribute a fixed amount at regular intervals, starting as low as Rs. 500.

• Lump Sum: A one-time investment made in a single payment.

What is a Unit Linked Insurance Plan (ULIP)?

A ULIP is a life insurance product that combines insurance coverage with investment. It allows policyholders to invest in equity, debt, or hybrid funds while providing life insurance cover. Policyholders can decide the allocation between insurance and investment and switch between funds during the policy tenure without incurring taxes or exit loads.

ULIPs offer dual tax benefits under the Income Tax Act: deductions on premiums paid under Section 80C and tax exemption on maturity proceeds under Section 10(10D), subject to certain conditions.

Difference Between ULIP and Mutual Fund 

Factors To Consider Before Choosing Between ULIP and Mutual Fund

• Tax Benefits*: ULIPs provide tax deductions on premiums and tax-free maturity proceeds (subject to limits), while mutual funds offer tax benefits mainly through ELSS schemes. Assess your tax liability to choose accordingly.

• Portfolio Flexibility: ULIPs allow flexible allocation between insurance and investment and switching among equity, debt, and hybrid funds. Mutual funds require choosing a scheme upfront, with entry and exit options but no embedded insurance.

• Risk Factor: Mutual funds generally carry higher market risk. ULIPs offer some risk mitigation due to the insurance component, making them suitable for conservative investors who want insurance protection alongside investment.

• Investment Horizon: ULIPs have a mandatory 5-year lock-in, making them suitable for long-term goals. Mutual funds (except ELSS) offer greater liquidity and can be redeemed anytime.

• Cost and Charges: ULIPs may have higher charges due to insurance and fund management fees, which can impact returns. Mutual funds typically have lower expense ratios, enhancing potential returns.

*Section 80C allows annual deductions of up to ₹1.5 lacs from the taxable income. Section 10(10D) provides tax-free maturity benefits for investments of up to ₹2.5 Lacs/ year, on policies bought after 1 Feb 2021. Tax benefits and savings are subject to changes in tax laws.
^{^}LTCG: Long-term capital gains (LTCG) tax (12.5%) is exempted on annual premiums up to 2.5 lacs.

Comparison Between ULIP and Mutual Fund

Wrapping it Up

Both Unit Linked Insurance Plans and Mutual Funds have their own advantages and drawbacks, but the final choice depends upon the investor and their financial backup completely. The risk profile, financial background, and investor’s appetite are the key factors that one should consider before making any kind of investment for better returns. It is extremely important for an investor to choose their investment wisely before taking any step forward.