• Mutual Funds
• Term Insurance
• ULIPs
• Comparison
• Conclusion

Mutual Funds

Mutual funds are investment products available to investors through which they can invest in a professionally managed equity or debt portfolio. Investors who may not want to invest directly in financial markets may instead get exposure to the same securities through a mutual fund. A mutual fund may offer multiple schemes or funds, each catering to a different investment need of the investor.

Term Insurance

Term insurance is a pure risk cover product. It pays a benefit only if the policy holder dies during the period for which one is insured. Term life insurance provides for life insurance coverage for a specified term of years for a specified premium. The premiums are typically low because it only covers the risk of death and there is no investment component in it. In case, the policy holder survives the term of insurance, the premium paid during the period of coverage is lost and non-refundable.

Unit Linked Insurance Premium (ULIPs)

ULIP is an insurance product that combines term insurance and investment by enabling the policy holder to earn market-linked returns by investing a portion of the premium money in various proportions in the equity and debt markets.

The premium is divided into two parts – part of the premium is used for providing the life cover like in term insurance and the rest is invested in the fund or mixture of funds chosen by the policy holder. Since the fund chosen has an underlying investment – either in equity or debt or a combination of the two – the fund value will reflect the performance of the underlying asset classes. Each fund has its own risk and return profile based on the asset class that the fund has invested in.

Comparison of Mutual Funds vs ULIPs

1. Lock-in Period

 Mutual funds have no lock-in period except in ELSS funds which have a 3-year lock-in period, albeit voluntarily for the purpose of retaining the tax rebate.

All ULIPs have a lock-in period for a minimum of 5-years.

2. Insurance Cover

Mutual funds do not provide any life insurance cover.

ULIPs provide a very low insurance cover; usually the sum assured is 10x of the annual premium paid depending on the investors age at the time of buying the ULIP.

But an investor can opt for direct term insurance which gives a much higher insurance cover than ULIPs with a lower cost as we shall see below.

3. Tax deduction

Tax saving mutual fund schemes called Equity Linked Savings Schemes (ELSS) are eligible for tax deductions up to ₹ 1,50,000 per year, with a lock-in for three-year period under section 80C

Premiums paid for ULIPs subject to overall limits is deductible under section 80C to get tax benefit.

4. Redemption Tax

Equity mutual funds incur a short-term capital gains tax if redeemed within one year of the date of investment and a long-term capital gains tax if redeemed one year after. Debt mutual funds incur a short-term capital gains tax if redeemed within three years from the date of investment and a long-term capital gains tax if redeemed after three-years.

ULIPs on the other hand are tax exempt under section 10 (10D) upon redemption.

5. Costs of investing

Each mutual fund scheme has an expense ratio which is a percentage of the total AUM of the scheme. This is the total cost of the scheme which includes operational cost and management fees of the fund.

In addition to the management fees of the investment side of the ULIP, they have additional charges for policy administration, mortality, policy alteration, partial withdrawal, and switching of fund. All these charges, though regulated and approved by IRDAI, do bring down the NAV of the ULIP.

To get more clarity on the comparison, let’s take an example of Investing in a ULIP vs Investing in a Mutual Fund + Term Insurance assuming a tenure of 20 years for a 30-year-old with Rs. 50,000 investments for both options:

*The premium charges for term insurance are an average of 10 premium quotes on policy bazaar

The above table shows that by buying a separate term insurance and investing the difference in mutual funds, the insurance coverage increases significantly.

Below tables are a comparison of returns of similar fund categories for Mutual Funds and ULIPs^:

HDFC

ICICI

TATA

^All returns are as of 8^th May, 2018.

The returns are in Mutual Funds across similar schemes are considerably higher on a 5-year basis than in ULIPs.

Conclusion

ULIPs are always more tax efficient than mutual funds, but mutual funds outscore ULIPs on other parameters like returns, liquidity and flexibility.

For the same amount of investment in Mutual Funds + Term Insurance, one gets far better returns and higher life insurance coverage than ULIPs.

It would be advisable to consult your independent financial advisor to seek the best course of action.