Ulip with a higher cover will pay rich dividends over long term

Post liberalisation in 2000, there has been tremendous growth in the Indian insurance industry, more particularly so in the life segment. The total life insurance premium underwritten by the industry has grown from Rs26,250 crore in FY1999-2000 to Rs286,500 crore in FY10-11. India has the largest in-force policies in the world and is among the world’s top 10 largest insurance markets by way of collected premium.

For the insurance sector, penetration and density are two important indications of its potential and performance. Total life insurance premium, which was just 1.4% of GDP in FY1999-00 before the industry opened up for private participation, has grown to 4.7% of GDP in FY 2009-10, which is very healthy and comparable to many developed markets. The number of life insurance policies in force has also increased nearly 12 fold over the past decade.

However, while the premium figures have gone up, the level of protection cover Indian customers have is very low compared to other markets. In insurance parlance, the sum assured is the amount payable to the beneficiary in the case of death of the policy holder. This is the level of protection that a policy holder has. Now, the total life insurance sum assured in India as a multiple of its GDP is just 0.3 times. Even in a small country like Taiwan, this figure stands at 2.3 times. Indians continue to remain extremely under-protected. We are just not adequately prepared for eventualities.

There are several categories of life insurance products which can help customers secure their families financially in case something was to happen to the breadwinner. There are term plans that are purely focussed on life protection. And there are traditional plans or unit linked plans (ULIPs), which are a mix of life protection and investment returns.

In the past, ULIPs were extremely popular with customers since they offered good investment returns, primarily from a booming stock market, along with some very basic protection cover. The product structure led to mis-selling around short-term investment returns without customers adequately understanding the possible downside risks of investing in market-linked products. However, post the regulatory changes towards the end of the last year as also the continuous writing and debating around the product category by media, customers today have become slightly unsure of buying ULIPs. This is unfortunate since the new guidelines have made ULIPs more attractive for customers on both aspects of long-term investment returns as well as life protection.

The new guidelines have strengthened the life protection component in ULIPs. The regulator (Irda) has stipulated that the sum assured should be a minimum of 10 times the regular annual premium (125% of single premium) for customers up to age 45 and 7 times (110% of single premium) for other customers. The cover may still not be enough, but a focus on enhancing protection cover for policy holders is definitely a step in the right direction.

Also, the value proposition on investment returns is also much stronger than what it was in the past. The cap in IRR and agents’ commissions mean lower costs and better returns to the customers. In addition, lower surrender charges also work well for customers who may need to give up their policy without incurring financial losses.

In my opinion, ULIPs are now a much more attractive proposition, primarily on account of more focus on life protection, which is really the fundamental purpose of insurance.  If you do decide to buy a ULIP, here are a few considerations that you must keep in mind.

- Choose a ULIP with high protection cover.  Remember that under-protection will impact financial security for your family in case of an eventuality.

- For healthy returns on your investments, you must be ready to hold your ULIPs for a long tenure, at least 10 years.

- Choose a fund(s) to invest in carefully, on the basis of your risk appetite. Most ULIPs allow you to allocate your monies in multiple funds and also to periodically switch your monies between your various funds. Your choice of fund(s) will determine the returns and the safety of your investment. Review the fund performance on a periodic basis.

- Go through the Key Features Document and Product illustration carefully to understand various charges and expected returns. It is mandatory for insurers to explicitly give information on the definitions of all the applicable charges, method of appropriation of these charges and the quantum of all the charges during the entire term of the policy. Insurers must also share a product sales illustration that highlights the rate of return calculated at 6% and 10% to enable comparison across various products.

Other than ULIPs, where the investment risk is linked to the market and lies with the customer as per his /her investment decision, there are traditional insurance plans where the investment risk is borne by the insurance company. In such plans, companies offer guarantees and returns in the form of bonuses and additions. These are declared annually and customers are assured about what they should expect at the end of the policy term. Traditional plans work well for customers who are keen to invest and earn reasonable returns, but are averse to taking large risk on their hard earned wealth. Traditional plans generally have much higher protection component and customers have the flexibility of choosing the amount of protection cover they would like to ensure financial security for their families.

Finally, for customers who require only financial protection for their families from undesirable eventualities such as any kind of financial liability or sustenance of lifestyle in the unfortunate event of their death, a term insurance plan would be ideal as it provides the family a lumpsum amount on death. As these are primarily risk covers with no investment component, the premiums are lower when compared to traditional plans or ULIPs for significantly higher protection.

In conclusion, the primary need for life insurance is protection and there are many life insurance products that can offer you financial security as well as investment returns. It is up to you to decide what will work best for you, at this stage of your lifecycle. The best way to go about this is laying out your life’s goals on a sheet of paper and making necessary inflationary adjustments, as per the current rate (indicative 8%). Once you have a figure against each goal, planning becomes simpler. The thumb rule to calculate the required protection cover amount (sum assured) is to multiply your annual salary by 20 (bare minimum, certainly not the maximum).  And if you don’t have the time or the know-how to take this decision, seek the help of a professional financial planner / life insurance advisor. This can enable you to better understand your short-term and long-term financial goals and get you to solutions that are specifically tailored to best meet your needs.

The writer is CEO of DLF Pramerica Life Insurance.