Case 1: Mr. Ashish Pareek, an engineering grad, was lured by an agent from Max New York Life Insurance Company to buy a policy where he had to pay a premium of Rs. 20,000 for 3 years after which he was assured a return of Rs. 2-2.5 lakh. At the end of 3 years period, the promise of hefty return remained unfulfilled and his attempts to secure his returns were obstructed by surrender charges of around 25%. Five years down the line, despite payment of an additional premium of Rs. 20,000, the hefty returns continue to evade Pareek. The NAV of his policy has increased but the value of the principal amount paid by him depreciated from Rs. 80,000 to Rs. 56,000, courtesy multiple charges that entailed his policy.
Case 2: Mr. Swaran Jaggi, took a ULIP from Aviva Life Insurance with a yearly premium of Rs.54,000. Over the years, as the market valuation of his fund deteriorated and he eventually stopped paying the premium upon advice from company advisors. He intended to withdraw once surrender charges were reduced but eventually received a sum of Rs 89,832/- (against his deposit of Rs. 1,62,000). For a policy that promised appreciation of 10-15% of the principal, Mr. Jaggi’s money depreciated by around 55%. Mr.Jaggi promises to chase the company to end of the world if that is what it takes to seek justice.
“Organised Crimes”, is what Mr. Jaggi promptly labels the ULIP schemes. Too strong words, no doubt, but sufficient to express the angst of an average investor.
For the uninitiated, ULIP is an acronym for Unit Linked Insurance Plans. These plans, as many prominent insurance companies claim, give consumers a unique opportunity to invest while they enjoy the benefits of a life cover. A ULIP therefore, to quote from Kotak Life Insurance’s home page, “gives an individual the security of life insurance along with wealth creation opportunities. One can benefit from flexibility, liquidity, strategic savings, tax benefits and fund options that are inherent in a ULIP.” Kotak of course is referring to its own ULIP schemes, but the idea basically summarizes how industry in general perceives ULIP. ULIPs inevitably are, hence, marketed as the extremely consumer friendly insurance products that aim at giving consumers the best of both Worlds.
But do they? A large chunk of veteran investors begs to differ as do a couple of industry insiders. Deepak Shenoy, Financial Advisor and Chief Editor, Capital Mind is categorical in his dismissal. “Investment and insurance should not be mixed. Period”, says Deepak. A view strongly reiterated by Mr. S.N Mishra, retired IFS officer and an avid investor delving into shares and mutual funds for past 20 years. “Go for Term Plans”, quips Mishra, “it gives you life cover at minimal cost. ULIP have hidden costs beyond any average investor’s comprehension.”
“Go for Term Plans”, quips Mishra, “it gives you life cover at minimal cost. ULIP have hidden costs beyond any average investor’s comprehension.”
Unravelling The ULIP Mystery
It is hard to comprehend why ULIPs hold such a sway in the investment market despite the evident cost factor and complexity. Mr. Dwivedi, a Lucknow based agent, offers a perspective, “Forget term plans, with commissions on mutual funds slashed, agents were unwilling to market even mutual funds. ULIPs were lucrative, attractive at the first brush and suited the agents perfectly.”Agrees Deepak, “the idea is to confuse the consumers with complicated graphs and designs even though every such product is inherently designed to ultimately benefit the industry, not the investors”.
Comprehensive Guide to ULIP
Not just the agents, a major factor that has worked in favor of ULIPs is a prevalent investor perspective. A simple term plan means that if one survives the period of the policy, the entire amount of premium invested is effectively lost. On the contrary, the attractive returns that are offered by any ULIP seem much more the money’s worth even if that means investing a greater chunk of money. Says Mishra, “for a first time investor, it is hard to comprehend the value of a term plan minus any returns on the money. A life cover is based on a contingency nobody wants to contemplate and hence, does not translate into tangible benefits. ULIP on the other hand offers a tangible and more immediate value for money with life cover an ancillary benefit as and hence, an obvious choice for an uneducated investor”. In the case studies cited above, the primary motivation for both the investors was the proposition of tangible returns in short span of time, an elemental error committed by a number of investors.
No wonder then that ULIPs have, until recently, been the top selling plans of life insurance companies, evident by the contribution they make to life insurance companies revenues. Moneycontrol.com reported in September 2010 that ULIPs had reaped in a growth of 45% in the financial year 2009-2010 when the net growth of the insurance industry hovered around 21%. Moneycontrol attributed this growth to the “mis-selling” strategies of the insurers.
Deepak Shenoy
The Complexity Trap
The calculation of returns is complicated and what most investors are unable to comprehend or calculate is that while the return sum may look substantial, it actually is a very meager percentage of the premium they have already paid. Illustrates Deepak, “In 1997, a yearly premium of Rs.200 was all that was required to insure a sum Rs. 1Lakh for 25 years in a through a term plan. But a large number of investors chose, instead, to pay hefty premium of around Rs. 5000 for an equivalent life cover but with money back benefits with such schemes returning a sum of around Rs 15000 every four years with a promised bonus at the end of the term. Very attractive in the first brush but what most investors couldn’t understand then was that the net return would be a meager 5% of at the total premium they would have paid in that span of time; significantly less than the percentage return if the money was invested in mutual funds or simply stashed away as fixed deposits in a bank.”
The situation worsens in case of market slumps because more often then not, the risk factor is not properly spelt out in case of ULIP. Coupled with the exorbitant charges, the losses suffered by individuals are humongous, Rues Jaggi, “I understand market risks. But, when a plan promises me 10-15% returns and then depreciates the principal by 55%, it is a massive mis-estimation of risk by the plan. It is a breach of confidence of an investor who relies on the plan to safeguard and multiply his money. They cannot shrug their responsibility on the grounds that they did not guarantee anything. The technicalities of complex fund documents cannot be and should not be allowed to become an excuse for stashing away my hard earned money” Mr. Jaggi like many other investors, blames the weak regulatory regime for the ULIP fiascos.
The Recent Guidelines And The Implications
This widespread concern has not gone unnoticed. Mis-selling strategies and high investor risk quotient in case of ULIP has long been on IRDA’s (Insurance Regulatory Development Authority) radar, eventually leading the regulator to come out with detailed guidelines with respect to ULIPs in 2010.
Technicalities aside, these guidelines aimed at making ULIP more investor friendly while capping the charges and expenses borne by the investors. These guidelines also increased the lock-in period to ensure that these products were not seen as tools to short term gains and also increased the minimum life cover to be provided by these plans, thus ensuring that the insurance aspect of these plans was substantial and not ornamental. This fresh, consumer friendly version of ULIP, expectedly ruffled the insurance industry, resulting in a complete reversal of trend post the implementation of the guidelines in 2010. With a cap on the charges and resultant reduction in the agents’ commission, the marketing of these schemes took a sharp hit as more and more agents were willing to steer their investors towards ‘traditional’ investment products.
The industry is evidently livid, blaming the regulator for their losses and fall in sales of ULIP. Laughs Deepak, “You can’t blame a law for inconveniencing the robbers. The regulator is there to protect the investors and you can’t hold it against IRDA that it is finally taking a note of its job.”
Laughs Deepak, “You can’t blame a law for inconveniencing the robbers. The regulator is there to protect the investors and you can’t hold it against IRDA that it is finally taking a note of its job.”
While enough has been said, written and reported on how these moves by the regulator are bound to push the industry on a back-foot and how an average investor is bound to benefit from the improved value proposition of ULIP schemes, an average investor still finds himself at loss when it comes to choosing investment products, more so with conflicting recommendations and reports from various sources. The new guidelines have definitely made the schemes more investor friendly. Ironically, ULIP lost its sheen in the very year when it should have garnered maximum investor attention in its new avatar. The trends clearly seem to be driven by marketing wisdom rather then regulatory reforms.
Is ULIP Really Worth It?
The new regulations might solve a part of the problem, protecting the unenlightened investors from unwittingly falling into a trap and ensuring that investor interests are protected when they invest in ULIP. But, does this make ULIP an investor-friendly product? Deepak has his doubts, “Even if the charges are capped, ULIP continues to be an extremely expensive option, not really recommendable.” Despite the fact that ULIP no longer have exorbitant charges, they are still the maximum that can be charged and there is always a possibility of securing similar benefits at a lesser cost. For instance, a well balanced combination of mutual funds and term plan can be a way of securing a diverse portfolio with compatible benefits. The investors must carefully examine their options and make a decision based on a meticulous cost-benefit analysis.
Diversity happens to be one of the most abused terms in the world of investment and one of most oft cited reasons for including ULIP in the overall portfolio. Deepak clears the air, “One has to understand that when we talk about diversity, we are talking in terms of asset classes and not vehicles. So, you can have only mutual funds in your portfolio but if they invest in different classes like equity, debt, real estate and so on, you have requisite diversity.”
Every investor must understand and comprehend the basic mode of operation of every available investment instrument, assess their financial goals and circumstances and choose wisely. Factors like liquidity become crucial if your investment is locked in. Lack of liquidity, according to Deepak, is a major concern with ULIP and one must be very careful before committing once finances in such schemes.
Caution Is The Key
With or without regulations, investor caution continues to be crucial and one has to invest as per individual financial goals. Says Mishra, “Awareness is the key. Had I blindly relied on my agent’s advice all these years, it is hard to estimate the money I would have lost.” While it is not possible for every lay investor to be market savvy, a basic degree of awareness is important.
The need to exercise caution multiplies in face of the possibility of agents not being completely honest about more than the nature of your plans. Amit Jamwal learned this lesson the hard way when despite asserting that he did not want a ULIP, the agent nevertheless invested his money in one and to make the situation worst, vanished without ever providing him with proper documents. Stuck with a plan with massive administration charges and two premiums already paid, dejected Jamwals rues, “I hate all agents. I am losing all hope that anything can ever be done about them.”
Jamwal’s experience is hardly an isolated case. Every month, Akosha receives multiple complaints with respect to insurance industry and a majority of them concern cheating agents. Our simple advice in all such cases is extreme caution, bordering paranoia. If you feel your agent is hiding something, take immediate precautions, insist on proper documents and do a proper research on the plan before even considering it for investment. What is worst than investing in a bad plan is investing in a plan you actually never intended to.
Beyond the agent brouhaha, the key is to realise that irrespective of how they have been marketed, ULIPs are meant for the investors who intend to remain invested long term. An average investor needs to make an educated choice, aligning the investment with their long term goals, instead of making investment solely with objective of securing quick fix short term gains which can be extremely hazardous especially in volatile markets. The regulator too has ensured long term investment in ULIP by increasing the lock in period. Beyond the mandatory investment period, the length of investment is a crucial factor and the bottom-line is, longer the period, better are the returns.
According to Deepak, “ULIPs should be avoided and the only class of investors for whom ULIP make some sense are people who completely financial discipline. However, people change and so circumstances. What is preferable now may not be preferable tomorrow and short sighted investments are hardly ever wise decisions.”
ULIP can be included in overall investment portfolio but it should be done only after a closer analysis of what these instruments actually entail.. “Ask questions”, says Dwivedi, “your agents/advisors are equipped with all the information. All you need to do is start asking the right questions.” Deepak summarises, “Don’t invest in products you don’t understand or with agents who don’t let you understand. If you don’t know exactly what your investment entails, then don’t invest at all.”