What's on the table?
IRDA has proposed the following charge structure to be implemented by October 1, 2009.
Overall ULIP charge structure:
1. For policies with tenure less than or equal to 10 years: Overall charges are capped at 3 per cent of gross yield; fund management charges (FMC) have been restricted at 1.5 per cent
2. For policies with tenure over 10 years: IRDA has capped total charges at 2.25 per cent of which the FMC will not exceed 1.25 per cent
Other charge structures:
- The above cap will exclude mortality and morbidity charges
- No surrender charges are applicable post 5 years of policy
- From October onwards, insurers will also have to give on maturity a certificate to policy holders showing year-wise premiums paid, charges deducted, fund values, partial withdrawals (if any) and the final payment made
All existing products that do not meet the requirements of this circular should be withdrawn or modified by December 31, 2009.
Your benefits
The regulation will be good for investors:
1. It will increase returns
As per the new ruling, a fund earning a gross yield (returns generated without inclusion of charges) of 12 per cent has to give a net yield (returns generated post inclusion of charges) of 9.75 per cent back to investors.
For example: If you take a policy with premium of Rs 100,000 per annum for a term of 10 years, given the cap on overall expenses (year-on-year) at 3 per cent; the fund value at the end of the term would be Rs 14.78 lakh.
Currently, the overall expense (YoY) stands at around 3.75 to 4 per cent; in that case the maturity value stands at around Rs 13.97 lakh. That is, you'd get Rs 81,000 at maturity.
2. The mandated disclosures will enable you to make an informed decision
Level playing field, yet? Stand point on ULIPs and MFs: They are different investment avenues meant for different types of investing.
Mutual funds work better when your objective is short term in nature and you can afford a risk profile ranging between 'Moderate-High'. On the contrary, ULIPs should be considered only when you have a medium or long term objective. Also, it falls under the 'Moderate' risk category, essentially when you are planning retirement; children education, etc.
ULIPs or Mutual Funds - How to choose?
Consider these factors while comparing the two avenues.
1. Most MF distributors are now charging a fee – typically on AUM (assets), this is as good as increasing the Fund management charges. This could, in some cases, turn out to be a higher percentage than the entry load that was being paid on the invested amount!
For example: If you are making regular investment of Rs 50,000 per annum each in an MF and in a ULIP, over a 10 year and 15 year period, the corpus that would be generated in both cases would be:
Avenues 10 years 15 years
ULIP 739,180 1,434,668
MF 732,935 1,327,109
Assumptions:
Expense ratio for ULIPs: 2.25 per cent (10-year term); 3 per cent (15-year term)
Expense ratio for mutual funds currently ranges between 1.84 per cent to 2.5 per cent; we are assuming an expense ratio of 2.15 per cent - percentage charged on AUM is assumed at 1 per cent (thereby the total of charges being 3.15 per cent)
Growth in both cases is assumed at 10 per cent
In the above case, ULIPs would work better, however, for a retailer who does the mutual fund investment directly without going through a distributor / financial advisor, the AUM charges would not be applicable and that would increase the corpus derived from mutual funds.
2. If one were to bring both mutual funds and ULIPs on the same platform, then the element of insurance needs to be added, which would further increase the cost on mutual funds (in case of ULIP the mortality cost is charged till the fund value does not exceed the sum assured, post which it becomes nil, a term cover would charge a flat premium throughout the term).
3. The proposed EET (Exempt-Exempt-Taxable) regime could be a dampner, especially in case of mutual funds. The ULIP policies availed prior to the implication of the EET regime would still enjoy tax-free returns. While, in the case of mutual funds, the sale date will be considered and irrespective of when the investment was made, if the sale happens post EET regime then the returns would be taxable.
Conclusion:
It is becoming obvious that MFs and ULIPs are moving towards immense rationalisation; with the focus from now on being on the quality of investment advice.
The IRDA focusing on reduction of long term costs is a step in the right direction keeping in mind that the ULIP should be considered mainly for the long term.
This is just the beginning of a new era of transparency in investment solutions which will enable investors reap better value on their investments.
