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5 steps to selecting the right ULIP
October 13, 2005 12:43 IST
Here's a 5-step investment strategy that will guide investors in the selection process and enable them to choose the right unit-linked insurance plans (ULIPs).
But before we get there, let's understand what ULIPs are all about?
For the generation of insurance seekers who thrived on insurance policies with assured returns issued by a single public sector enterprise, unit-linked insurance plans are a revelation.
Traditionally insurance products have been associated with attractive returns coupled with tax benefits. The returns part was often so compelling that insurance products competed with investment products for a place in the investor's portfolio.
Perhaps insurance policies then were symbolic of the times when high interest rates and the absence of a rational risk-return trade-off were the norms.
The subsequent softening of interest rates introduced a degree a much-needed rationality to insurance products like endowment plans; attractive returns at low risk became a thing of the past. The same period also coincided with an upturn in equity markets and the emergence of a new breed of market-linked insurance products like ULIPs.
While in conventional insurance products the insurance component takes precedence over the savings component, the opposite holds true for ULIPs.
More importantly ULIPs (powered by the presence of a large number of variants) offer investors the opportunity to select a product which matches their risk profile; for example an individual with a high risk appetite can shun traditional endowment plans (which invest about 85% of their funds in the debt instruments) in favour of a ULIP which invests its entire corpus in equities.
In traditional insurance products, the sum assured is the corner stone; in ULIPs premium payments is the key component. ULIPs are remarkably alike to mutual funds in terms of their structure and functioning; premium payments made are converted into units and a net asset value (NAV) is declared for the same.
Investors have the choice of enhancing their insurance cover, modifying premium payments and even opting for a distinct asset allocation than the one they originally opted for.
Also if an unforeseen eventuality were to occur, in case of traditional products, the sum assured is paid along with accumulated bonuses; conversely in ULIPs, the insured is paid either the sum assured or corpus amount whichever is higher.
Insurance seekers have never been exposed to this kind of flexibility in traditional insurance products and it would be fair to say that ULIPs represent the new face of insurance.
While few would dispute the value-add that ULIPs can provide to one's insurance portfolio and financial planning; the same is not without its flipside.
For the uninitiated, understanding the functioning of ULIPs can be quite a handful! The presence of what seem to be relatively higher expenses, rigidly defined insurance and investment components and the impact of markets on the corpus clearly make ULIPs a complex proposition. Traditionally the insurance seeker's role was a passive one restricted to making premium payments; ULIPs require greater participation from both the insured and the insurance advisor.
As is the case with most evolved investment avenues, making informed decisions is the key if investors in ULIPs wish to truly gain from their investments. The various aspects of ULIPs dealt with in this publication will certainly further the ULIP investor's cause.
How to select the right ULIP
For a product capable of adding significant value to investors' portfolios, ULIPs have far too many critics. We at Personalfn have interacted with a number of investors who were very disillusioned with their ULIPs investments; often the disappointment stemmed from poor and inappropriate selection.
We present a 5-step investment strategy that will guide investors in the selection process and enable them to choose the right ULIP.
1. Understand the concept of ULIPs
Do as much homework as possible before investing in an ULIP. This way you will be fully aware of what you are getting into and make an informed decision.
More importantly, it will ensure that you are not faced with any unpleasant surprises at a later stage. Our experience suggests that investors on most occasions fail to realise what they are getting into and unscrupulous agents should get a lot of 'credit' for the same.
Gather information on ULIPs, the various options available and understand their working. Read ULIP-related information available on financial Web sites, newspapers and sales literature circulated by insurance companies.
2. Focus on your need and risk profile
Identify a plan that is best suited for you (in terms of allocation of money between equity and debt instruments). Your risk appetite should be the deciding criterion in choosing the plan.
As a result if you have a high risk appetite, then an aggressive investment option with a higher equity component is likely to be more suited. Similarly your existing investment portfolio and the equity-debt allocation therein also need to be given due importance before selecting a plan.
Opting for a plan that is lop-sided in favour of equities, only with the objective of clocking attractive returns can and does spell disaster in most cases.
3. Compare ULIP products from various insurance companies
Compare products offered by various insurance companies on parameters like expenses, premium payments and performance among others. For example, information on premium payments will help you get a better picture of the minimum outlay since ULIPs work on premium payments as opposed to sum assured in the case of conventional insurance products.
Compare the ULIPs' performance i.e. find out how the debt, equity and balanced schemes are performing; also study the portfolios of various plans. Expenses are a significant factor in ULIPs, hence an assessment on this parameter is warranted as well.
Enquire about the top-up facility offered by ULIPs i.e. additional lump sum investments which can be made to enhance the policy's savings portion. This option enables policyholders to increase the premium amounts, thereby providing presenting an opportunity to gainfully invest any surplus funds available.
Find out about the number of times you can make free switches (i.e. change the asset allocation of your ULIP account) from one investment plan to another. Some insurance companies offer multiple free switches every year while others do so only after the completion of a stipulated period.
4. Go for an experienced insurance advisor
Select an advisor who is not only conversant with the functioning of debt and equity markets, but also independent and unbiased. Ask for references of clients he has serviced earlier and cross-check his service standards.
When your agent recommends a ULIP from a given company, put forth some product-related questions to test him and also ask him why the products from other insurers should not be considered.
Insurance advice at all times must be unbiased and independent; also your agent must be willing to inform you about the pros and cons of buying a particular plan. His job should not be restricted to doing paper work like filling forms and delivering receipts; instead he should keep track of your plan and offer you advice on a regular basis.
5. Does your ULIP offer a minimum guarantee?
In a market-linked product, protecting the investment's downside can be a huge advantage. Find out if the ULIP you are considering offers a minimum guarantee and what costs have to be borne for the same.
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