The new guidelines by IRda will reduce the biggest grouse — cost of ulips
The Insurance Regulatory and Development Authority (Irda) has been working hard on making unit-linked insurance plans (Ulips) attractive for policyholders. There have been many makeover attempts, the latest being effective from September 1. There are a slew of changes proposed and here's an overview of how it could impact policyholder.
Let’s take a quick look at the changes to come about in Ulips -
PROPOSALS MADE
# Lock-in to be extended to five years, against the current three years. This will also increase the mandatory premium payment term from three years to five years.
# Overall charges to be evenly spread out over the lock-in period.
# Life cover, which was a minimum of five times of sum assured, is now raised to a minimum of 10 times. Considering that it cannot be done for all age groups, Irda reduced it to seven times of annualised premium for those aged above 45 years. For single premiums, the minimum sum assured is fixed at 1.25 times of premium for policyholders below 45 years and 1.1 times for those at or above 45 years.
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# The Direct Tax Code (DTC) proposes to tax exempt annuity, with other investment-linked insurance becoming taxable on maturity. Irda supports this initiative, by fixing an assured return for pension plans at 4.5 per cent - interestingly, applicable for Ulips as well.
AN EXISTING ULIP HOLDER
If you are currently invested in a Ulip, even if it was bought a few years ago, these changes will not affect in any way. It will rather make sense for you (as an existing policyholder) to stop deployment of further cash into the product and switch to the new, improved product, once launched, which will surely be more competitive in terms of cost. Although it is not advisable to look at Ulips as short-term products, you can easily evaluate the scenarios to understand which one is beneficial for you. Further, surrendering a policy within five years should not be considered, especially if you hold the present or older version of the Ulip, where surrender charges are levied all the way till the 4th year or even up to the 10 th year, in many cases.
IMPACT ANALYSIS
All these moves will make Ulips more investor-friendly. This product is meant for a medium- to long-term horizon. And Ulip makeover will definitely curb mis-selling to a large extent. However, the downside is that it will be less flexible now, with the five-year lock-in and that could be a constraint in emergencies.
The new norms on Ulip charges has been in significant move. Those insurance products with very high front-end charge in the initial years will have to shed their existing form to even out the charges and deploy more towards investment in the initial years, helping the client from compounding.
Irda has changed rules for fund allocation as well. Ulips/ULPPs offered fund choices which provided up to 100 per cent exposure in equities. That will no longer be possible. The new rules will ensure a minimum fixed return and will mean a certain percentage of the fund being dedicated towards debt/government securities. This could lower the yield in the long-term and 100 per cent exposure to equities may not being possible. Ulips will no longer be on the same platter as mutual funds.
For someone looking at Ulips for investment, the timing could not be better. After DTC comes into effect from April 2011, Ulips could prove a little less tax-efficient. However, if one were to buy it before DTC becomes operational, it is likely that the maturity amount will not be taxable.
WILL ALL THIS REACH THE CONSUMER?
Sebi did a great thing by wiping off entry load on mutual funds — the objective was to get additional investors on board. However, this did not happen because there aren't too many sellers/distributors ready to provide service without the assurance of a fixed fee and not too many investors willing to pay for a service. This has been a major deterrent in getting funds into the system over the past year or so since the abolishment of entry load was implemented. Whether Ulips see a similar fate is something to be seen.
| ULIPS’ NEW CLOTHES # Lock-in period increased to 5 years from 3 years # For a long-term investor there is no reduction in charges # Front loading of costs will be restricted, and spread over 5 years providing for more investable funds in initial years, which will benefit from compounding # Minimum life cover increase to 10 times premium will impact returns for younger investors who used it primarily as an investment option # The minimum guaranteed return is fixed at 4.5 per cent for pension plans; insurers will be forced to have a balanced portfolio impacting # Pension plans to lose flexibility of early exits. It will now compete against other long-term products like PPF and EPF |
The changes made by Irda are in the interest of the investor. Insurers are already working out their numbers, since the current agency commission structures may not sustain, a long-term commission model will have to be devised, which will provide a regular income stream to the distributor.
Ulips, today, are an important saving instrument for many policyholders. Ulips also contribute significantly to the inflows into markets and hence it is important for the economy as a whole as well. We hope this becomes a good long-term investment product for the investor and a complementary instrument.
The author is CEO of Right Horizons