Are Ulips bad products for long-term saving?
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Unit-linked insurance plans (Ulips) are long-term savings products with life insurance. However, judging from the perception that people have about the product, it is seen as the evil empire. As the chief executive officer of a life insurance company, I can defend the product, but for now I will step back and look at the evolution of life insurance products as a whole over the past three decades. I will look at the emergence of Ulips, and then evaluate the question: are Ulips bad products?
Before the life insurance industry was privatised (i.e., prior to 2000), I was an insurance customer. I purchased my first life insurance policy in 1987 based on a recommendation from my head of salary section who had said that I needed to invest the amount so that I am not taxed. It seemed a sensible enough suggestion, and I made the purchase. I serviced it well, and even got regular returns. Life was fairly simple. We needed to save tax, and life insurance premium had a stand-alone sectional limit that would save us tax only if we bought a policy.
The concept of term insurance or pure life insurance, as a replacement for “potential earnings of the individual” was not familiar. We now know that all of us need to have an insurance policy for the monetary value of life, and this monetary value of life is taken as a multiple of one’s current salary, based on age, and is basically an estimate of the money that would have been generated had the individual continued to be employed and working till a reasonable period of retirement. We were also not familiar with Ulips—the market-linked insurance policies that were much more transparent than the money-back and endowment polices we were used to back then.
In 2001, once I joined the life insurance industry, the product was still new to me, and I have always tried to understand it as a customer first. This enabled me to ask all sorts of questions, with no hesitation. I learnt that it was the advent of private companies that introduced these two concepts: a ‘term’ pure life insurance policy, and a Ulip.
I bought my second set of insurance policies with a short premium payment term and a longer policy term. It was completely different from the endowment and money-back policies where the premium payment term and policy term were often the same.
Though there were big controversies surrounding charges, simple mathematics showed that when the charges were spread over the policy term, they were not unreasonable. There was no comparable benchmark and even a 60% charge, spread over the term of 20 years, was a 3% charge per annum, taken upfront, thereby optimising the investment.
So far so good, but the real problem started when this flexibility in premium payment and policy terms was used to start selling Ulips as a short-term investment to be redeemed in three to five years. Turning a long-term product into a short-term one meant that high front-end charges could not be earned back if the premium discontinued, as did the policy. It is not rocket science, but simple mathematics to see that the charges get averaged over the policy term. However, when policies are surrendered or closed prematurely, the time for averaging out does not exist and the policyholder loses.
The regulator, Insurance Regulatory and Development Authority of India (Irdai), responded to the sharp sales and in 2010, the new unit-linked guidelines introduced a concept of “reduction in yield”. Customers could now see what they really earned from the policy at the end of the term, and restrictions on what the companies could show as reduction in yield meant that policyholders could look at a possible return at the end of the plan period, based on assumptions of the estimated return in the market.
This amendment restricted the maximum charges and expenses that could be levied in the plan in order to ensure that a certain return expectation is met at an assumed rate of growth. Irdai also increased the minimum investment period from three years to five years for Ulips, further ensuring that the benefit associated with the product’s long-term nature is realised. Most of the pain in a Ulip was removed by the 2010 rules, however, there continue to be multiple discussions and debates on disclosure of charges in mutual funds and Ulips.
I am confident today that if customers still lose money in a Ulip, the reason is not disclosure or non-disclosure of charges, but staying the policy term, paying the committed premium, and also the underlying fund performing well. Policyholders have to understand that in a life insurance plan, one need not exit a policy to ‘book returns’, because this can be done by simply switching funds.
The Ulip issue, the lack of understanding, or in some cases, even mis-selling, has led to many insurance companies making a huge effort towards customer awareness. This happens through validation and welcome calls. If your agent or adviser tells you to stop paying premiums and suggests that you move into a new policy, do not listen to her. Do not foreclose a policy that you committed to, before the policy term completes. Talk to the company call centre and ask for clarifications.
Customers tend to lose money in Ulips when they do not service their plans as per the commitment. It is no more just about the charges in Ulips. Therefore, choose carefully and then stay the course. There are investment guidelines that govern the management of funds of a life insurance company which facilitate safety of funds and long-term returns.
R.M. Vishakha, managing director and chief executive officer, IndiaFirst Life Insurance Co. Ltd.