New-avatar Ulips are better than traditional plans

Last weekend I had a chance meeting with my friend Varun who is working with one of the biggest broking houses in India. I knew he was involved in making many a complex “derivative structured” products, which are probably beyond the comprehension of common man.

It was great to catch up with him to update myself on products which were on my agenda from quite some time. 

Talks moved towards approaching tax planning season, but to my surprise, in spite of having a strong financial background and working on various complex structures, he was looking for financial products where he can invest to claim 80C tax benefits.

A professional like him should have done this long ago, but that was not the case here. He told me that an insurance agent, whom he met in his CFP classes, had some plans that could help him save taxes.

So what was in his kitty? The insurance agent was proposing that my friend buy an endowment plan with an annual premium of `1 lakh.

I suddenly remembered another friend, who had bought a unit linked insurance plan (Ulip) some three years ago with a premium amount of Rs1 lakh, again during this time of the year when one has to invest to save taxes.

I started thinking about why the insurance agent was trying to push low yielding traditional plans (endowment) as compared with Ulips that are looking very attractive in their new avatar after the new guidelines.

These regular traditional plans offer returns in the range of 4.5 to 5.5% per annum, which are not enough to beat inflation in the long run. Whereas Ulips, in their new version, look promising and are all set to reward their investors over a longer period.

In other words, these traditional plans are worse than many of the Ulips that were sold before the new regulations came in. A shift in the way an insurance agent approaches a customer.

Just before September 2010, Ulips were hot favourite of the insurance agents. These products came with heavy charges that meant more commissions to the agents, who were selling this product.

Sale of Ulips constituted more than 70% of the new business of life insurance companies. The agents were paid as high as 60-70% of the first-year premium as commission. The policy was high on administration charges and low on transparency front, making this product a really bad investment option.

Then came the new regulations by Insurance Regulatory Development Authority (Irda) that capped all the overall charges on Ulips. It also brought in more transparency as the product brochure had to contain all the major features of the policy, thus improving the entire structure of Ulips and making them more customer-friendly.

The upfront commissions came down sharply after these guidelines, making Ulips lose its status of attractive proposition for insurance agents, in terms of commissions.

Let’s look at how these new regulations have affected the life insurance market.

The accompanying table shows the first-year premiums which mean new business for life insurance companies. Surprisingly, November 2010 was worse during the last four years (not even November 2008 when the Lehman crisis happened was as bad).

Insurance companies have lost almost 20% business as compared with the business done in November 2009. More than 16 private insurance companies lost business in the first year for individual premium policies in November 2010.

These include all the industry heavy weights like Bajaj Allianz, SBI Life, HDFC Standard Life and Reliance Life. Whereas the companies that saw an increase in the life insurance business were newly launched ones, which did not have any significant business in 2009.

Looking at the fate of Ulips, the insurance companies have started forcing their distributors to sell the traditional plans. The reason for this shift is not because traditional plans have suddenly become better than Ulips, but insurance companies are offering fat commissions to their distributors on these plans unlike on the new-avatar Ulips. 

So the next time your insurance agent tries to sell you a traditional insurance product, try understanding the real reason, so that you don’t fall in his trap.

In case you are still looking at saving taxes under section 80C, Ulips are one of the best options to invest for a period of over 15 to 20 years.

The writer is head, research, Apnapaisa.com, a price & features comparison engine for loans, insurance & investments. He can be reached at abhishek.singh@apnapaisa.com.