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What are the benefits of the reforms in the ulip sector?

We have written a series of article on ULIPs by pointing out the major advantages and disadvantages of ULIPs. We had also come up with articles on comparison of Mutual Funds & ULIPs and comparison of Fixed Deposits & ULIPs. We have received both positive and negative comments on these articles. Our intention is very simple; people should understand the importance of Insurance. It is not just an investment but it is a tool to cover the risk of your life. It helps your dependants to continue their life with same standard of living even in your absence. Now IRDA (Insurance Regulatory & Development Authority) has imposed a cap (maximum limit) on the charges that insurers levy on customers. In this article we will give you a brief about the effect of this move on your investment.

ULIPs will Turn Attractive on New Fee Cap

Unit-linked insurance plans (ULIPs) are one of the hot products of life insurers at the same time people had a complaint that Charges are very high in ULIP. But now ULIPs could turn more attractive with the regulator, Insurance Regulatory and Development Authority (IRDA), imposing a cap on the charges that insurers impose on customers. The regulator’s move comes in support of complaints that ULIP charges are higher compared to mutual funds. ULIPs are now expected to become more competitive than mutual fund products.

Important Points to Note

  • ULIP return may rise by 150 bps (1.50%)
  • 300 bps (3%) is the cap on ULIP charges for investments upto 10 years
  • 225 bps (2.25%) is the cap on ULIP charges for investments more than 10 years
  • Currently ULIP is charging an average of 375 bps (3.75%) on all Investments

The concept is very simple if a fund earns a yearly return of 15%, a policyholder has to get in hand a minimum return of 12% for investments upto 10 years.

Fund Management Charges

Currently, most of the mutual funds are charging 2.5% of the Fund value as Fund Management Charges (FMC). But as per the announcement of IRDA the fund management charges should not exceed 1.5% for insurance contracts of over 10 years 1.25% more than 10 years. Understand one thing most of the times insurance contract will be for more than 10 years. There is a difference of 1.25% in Fund Management charges of ULIP and Mutual Fund. Below given table will help you in understanding the charge structure in ULIPs and Mutual Funds.

Years Mutual Funds (2.5%) Insurance (1.25%)
1 500000 12500 6250
2 1000000 25000 12500
3 1500000 37500 18750
4 2000000 50000 25000
5 2500000 62500 31250
6 3000000 75000 37500
7 3500000 87500 43750
8 4000000 100000 50000
9 4500000 112500 56250
10 5000000 125000 62500
TOTAL Charges 6,87,500 3,43,750

Benefits of New Fee Cap

IRDA has announced a cap (maximum limit) on charges imposed on ULIPs. It has strictly mentioned that the difference between the ‘gross yield’ and the ‘net yield’ of ULIPs should not exceed 3% for policies less than 10 years and 2.25% for policies more than 10 years. Out of these percentages, fund management charges are limited to 1.5% for the shorter policies and 1.25% for the longer policies.

For your understanding; Gross Yield is the fund’s total investment returns and ‘Net Yield’ is what gets delivered to the policyholder. This move by IRDA will help you to gain a minimum of 1.5% more return on your investments because presently most of the insurance companies are charging 3.75% on the Gross Yield of your investment. But as per the new standard brought by IRDA the charges cannot exceed a maximum of 2.25% (for investments more than 10 years). You might feel that the difference of 1.5% doesn’t make much difference in your return but the fact is different.

Example: Below given table will help you to understand the effect of charges on your return.

Following are the assumptions of this example;
• Yearly Contribution – Rs.1,00,000
• Return on Investments – 14%
• Allocation Charges:
* 1st Year – 10%
* 2nd Year Onwards – 2%
• Policy Term – 20 Years
• Premium Payment Term – 15 Years
Returns as per Previous Charges (3.75%)
Returns as per IRDA Recommended Charges (2.25%)

Difference in Returns

Returns At 3.75% (Rs) At 2.25% (Rs) Difference
After 5 years 6,40,175.97 6,72,277.06 32,101.10
After 10 years 16,71,086.25 18,41,221.63 1,70,135.38
After 15 years 33,10,727.43 39,49,861.14 6,39,133.71
After 20 years 52,65,642.56 66,15,354.96 13,49,712.40
TOTAL 1,08,87,632.2 1,30,78,714.79 21,91,082.59

As a result of New Charge Cap, over a period of 20 years your total returns will be Rs. 21,91,082.59 more than the present returns. It means, the profit of insurance companies will reduce and the returns of investors will increase. Presently a major part of your returns are eaten by insurance companies. But after the introduction of New Charge Cap they won’t be able to take much out of your investments. As a result your returns will increase.

Loop Holes in New announcement

IRDA has introduced New Charge Cap on Insurance but they didn’t mention anything about Allocation Charges. Companies can increase or decrease this charge as per their wish. They might compensate the loss by increasing the allocation charges. Presently there are plans with different allocation charges; it ranges between 2% - 60%. Most of the times investors will be cheated by insurance advisors, they always suggest you the worst plan with maximum allocation charges because agent commission will be more in such plans. So think twice before choosing a plan.

How Moneymindz.com can Help You

We are not insurance advisors and we are not working on commission basis. Our intention is to make all Indians financially literate. There are 1000s of financial products in Insurance, Mutual Fund, Banks, etc. choosing the best one among these is very difficult job. As we have mentioned earlier, most of the sales people will stress on the worst product as it offers more commission for them, but we offer you the best financial solution for all your financial problems as we only advise.

For our last article on ULIPs we got so many comments by indicating that we are acting as an insurance agent and there are no ULIPs with 10% allocation charges. We are repeating again there are ULIPs with 2% allocation charges. Like the same there are ULIPs that has generated 16% returns and minus returns also. Choosing the best one is your responsibility. If you don’t know about this, it is only because of your financial illiteracy. We will guide you with valuable suggestions and advices related to any of your financial queries. Only thing you have to do is login to www.Moneymindz.com.

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