ULIP VS Mutual Funds

Battle lines were drawn between ULIP and MFs since the budget announcement. Many believe ULIPs score over mutual funds. Is it so? DSIJ probes how these two DSIJ products compare and which one better suits you.


Many of you may have come across insurance agents or even the bank representatives pitching you about an investment option that comes with insurance cover with a fancy name such as wealth builder or wealth creator, etc.. He is actually talking about a financial product known as ULIP (Unit Linked Insurance Plan). Maximum people would have owned these products at some point of time or still holding it as they feel ULIPs are much safer options than mutual funds. 

What are ULIPs?
Most of us generally do not completely understand the features of ULIP and end up buying it as we blindly believe in the explanation given by the insurance agent or the bank representative. So, it becomes important to first understand what is ULIP and then decide whether it is better than mutual funds and whether it should be a part of our overall financial plan.

ULIP is a combination of both investment as well as insurance. Here, the policyholder pays a premium, out of which a small portion goes towards securing his life with the help of insurance cover and the remaining amount is invested the way mutual funds invest. 

So, let’s bust one myth about ULIPs that these are safer than mutual funds. Actually, ULIPs are as risky as mutual funds. Just like mutual funds, ULIPs also invest in stock markets. So, if you are buying a ULIP just because the product is provided by an insurance company, it does not make it automatically safe. It is very important to understand that investment and insurance are the two different aspects for your overall financial planning and hence it is better not to mix them up. It is always beneficial to have your investments and insurance as separate products. 

ULIPs costlier than MFs
Though there is an advantage of convenience while investing in ULIPs, there are various factors that make ULIPs less effective products as compared to mutual funds. ULIPs come with various charges and it is important to know these before buying them. It has a premium allocation charges (PAC) wherein the insurance company charges the clients for the expenses incurred by the company to insure him. PAC is charged as fixed percentage of the premium received and generally includes fees such as underwriting cost, agent's commission, medical expenses, etc. It is higher in the initial years and is even charged on the renewal premiums, albeit at a lower rate. After deducting PAC, the remaining amount is invested in units. Policyholder also needs to pay administration charges every month. These charges can be same throughout the period or may vary at a predefined rate. For managing the policyholder’s fund, the insurer charges fund management fees. The NAV (Net Asset Value) of the fund is shown after deducting this fee. As per the IRDAI (Insurance Regulatory & Development Authority of India) regulations, fund management fees must not be more than 1.5 per cent of the net amount invested.

The insurer may also charge the policyholder for surrendering or discontinuing the policy. Usually, the surrender charges for the first four years may range from 15 per cent to 30 per cent of fund value. However, after the fifth year, there are no surrender charges. From third year onward, the policyholder is allowed to make partial withdrawals, but these are subject to certain conditions and charges. If the policyholder wishes to switch, then some number of switches every year are free of cost, but any additional switches may attract a charge. So, these are the charges that you may have to pay in a typical ULIP. 

Is it right to compare ULIP with MFs?
The debate of ULIP over mutual fund schemes gained traction recently especially after the Union budget of 2018-19. It was declared in the budget that, going forward, LTCG (Long Term Capital Gains) tax would be levied at 10 per cent on gain made 1 lakh Rs. on mutual fund investment. However, an exemption of was given for equities. Nevertheless, ULIPs, which function more like a mutual fund, was not included in budget taxation. Hence, it was construed as a better product from tax efficiency point of view and many of the insurance agents got an USP to push ULIPs by stressing on the taxation aspect. But taxation should not be the only criteria to consider before buying any product. 

ULIPs have a different structure as compared to mutual funds and hence it can never be an apple-to-apple comparison of performance. If at all we wish to compare performance of ULIPs with that of MFs, then we need to compare them in purely investment terms and keep aside the insurance part that comes with ULIPs. ULIPs come with a lock-in period of 5 years. However, in case of MFs (excluding solution-based and close-ended MFs), the lock-in period is maximum of 3 years and that too only for ELSS (Equity Linked Saving Scheme). 

If we take performance into consideration, then the 5-year average returns provided by ULIP large-cap, mid-cap and multi-caps are 13.49 per cent, 21.19 per cent and 11.42 per cent, respectively. However, if we compare the same with that of mutual funds, then the 5-year average returns provided by mutual fund large-cap, mid-cap and multi-caps are 13.52 per cent, 20.40 per cent and 16.58 per cent. Still many would say that, in terms of performance, ULIPs are doing better or are at par with mutual funds, but it is to be remembered that the returns of ULIP are only adjusted for fund management charges and other charges have not been adjusted in the returns. On the contrary, mutual funds are adjusted for all the fees and charges. So, in performance terms, mutual funds are much better than ULIPs. Even in terms of transparency, mutual funds are much better as all the charges and returns are levied in a transparent manner. However, that is not the case with ULIPs. 

Why MFs score over ULIPs
Let us look at an example to understand whether ULIP is better than mutual funds or vice versa. Assume you were to purchase ULIP and mutual fund from the same parent company (such as ICICI, Edelweiss, IDBI, etc). This is an actual example, however, the name of the companies are not mentioned, but the data are actuals. Following are the 10-year NAV of both, so let us understand how much wealth you would have generated in both. For this illustration, it is assumed that there are no charges in ULIP apart from the fund management charge, which is already accounted for in its NAV.

Though there is an advantage of convenience while investing in ULIPs, there are various factors that make ULIPs less effective products as compared to mutual funds. ULIPs come with various charges and it is important to know these before buying them.



Now, if we look at the 5-year historical data, ELSS provided 89,298 more compared to ULIP. Therefore, the post-tax return Rs. was 45% more than ULIP. From the above analysis and comparison, we come to know that ELSS or MFs are much better than ULIP in terms of returns. However, some of you may argue that ULIP provide insurance cover and hence even if ELSS gives better returns, it cannot match the life insurance cover. 

Assuming your age is 30 years and ULIP is giving you sum 10 lakh. If you buy a term insurance plan for a cover Rs. assured of 1,000 per annum as Rs. 10 lakh, you need to pay only Rs. of premium. So you can buy a pure term insurance for five years and invest the balance amount in ELSS. It would be much more beneficial for you rather than investing in ULIP.



How to decide between ULIPs and MFs
Investment purpose: If we ask people why they are opting for ULIP over a mutual fund, the clear answer would be that along with investment, insurance cover is also available. But here people must first decide what they actually want, a product which can give you adequate returns to achieve your desired financial goal or an adequate insurance cover. ULIP cannot provide adequate cover like a term plan does. Hence, first decide what you want. Of course, a person with adequate insurance may choose to invest in ULIP. Equity mutual funds have outperformed ULIPs 

It is advisable to be careful about the sales pitch of the agents. Following are some of the common things that an insurance salesperson says to you when he is not considering your interest first.

Invest in new and better ULIP

The insurance salesperson may say that as the fund has reached its peak of the assets that it manages and hence there is low potential for it to grow further, so it would be beneficial for you to surrender this policy and invest in the new ULIP which also has some added features.

In this case, the interest of the insurance salesperson is more because for the initial one or two years, the commission that they earn is much more which later on reduces as you continue to pay the renewal premiums.

They are better than bank FDs (Fixed Deposits)

This sales pitch generally happens for the bank customers, wherein the bank representative responsible for ULIP sales says to you that ULIPs are same as bank FDs with insurance. They cite an example of 4 per cent and 8 per cent telling you that this is the range of interest rates that you may get on your bank FDs. Then, they tell you that bank FDs are taxable while ULIPs are not. The reality is that ULIP and bank FDs are completely different products with different structures. ULIPs also invest in stock markets and hence are riskier than the bank FDs. So, don’t fall prey to such sales talk. 

Double your money with ULIPs

A salesperson may ask you to invest in ULIP, telling you that it would double your money in just five years. This is one of the common sales pitch when the markets are in a bull run. Past returns are shown to the customers to lure them.

ULIP, like mutual funds, can invest in equity, debt or both and the performance would depend on the performance of the underlying assets. There is no guarantee that the fund may generate specific returns. So, don’t get fooled by any such tempting 'guaranteed' returns that these people dangle to lure you.

Returns : Equity mutual funds have outperformed ULIPs historically. Even a small difference of one to two per cent over a long period of time can make a big difference in the corpus, thanks to the compounding effect. The following table shows you the difference between the returns of ULIPs and mutual funds.



Liquidity : is one of the important parameters for choosing an investment product. It is prudent to invest in a product which can be easily liquidated when you need cash. The open-ended equity mutual funds are highly liquid. ELSS (Equity Linked Saving Scheme) is an exception to this as it has a lock-in period of three years. On the other hand, ULIP has a lock-in period of five years.

Cost : Previously, ULIPs came with high charges, but now to compete with the mutual funds, ULIPs have reduced their charges. If one invests in ULIPs via online mode, the investor need not pay administrative or fund allocation charges. In this respect, mutual funds have also further reduced their TER (Total Expense Ratio) by offering direct plans.

Taxability : ULIPs are more tax efficient than MFs. Whether it is equity or debt, capital gains from the ULIPs are tax-free. On the other hand, an equity mutual fund investor has to pay 15 per cent tax on STCG (Short Term Capital Gain) and 10 per cent on LTCG (Long Term Capital Gain), with an exemption up 1 lakh. In case of debt mutual funds, STCG are added to the Rs. to individual’s income and is taxed as per the income tax slab rate, while LTCG is taxed at 20% with indexation benefit. 

While selecting an investment, one must not just concentrate on a single factor. ULIP can be an option for those who are adequately insured. A combination of term insurance plan with mutual funds can be a better bet as compared to ULIP.

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