Embedded Value – ULIP: Insurance is about safety, not returns

This unique safety is also needed by the people who want to save with high guarantee of reasonable returns on the amount saved every year.

April is the first month of the financial year; hence the most apt time to plan one’s expenses and savings for the next 12 months. An individual first needs to provide financial protection to his family and life insurance emerges as the first among several very attractive tools of saving for one’s future. A life insurance policyholder creates an estate for his family worth the sum assured chosen by paying the very first instalment when his proposal is accepted by the insurer. The sum assured guaranteed to the family in case of the unfortunate passing away of the bread-earner may be any sum 10 to 100 hundred times or even more of the annual premium.

No other savings instrument can yield such ‘returns’ in any circumstance. The policyholder therefore is not an investor but simply the provider of financial security to his family or to himself in old age by receiving the accumulated value as the maturity amount. The unit linked insurance policies (Ulip) are marketed to the prospects as an opportunity to be an investor in the stock market through a life insurance policy. Such a wraparound for the linked policies has been designed to enable the policyholder to enjoy the benefit of stock market yields along with life insurance protection.

Yield under a Ulip policy is never equal to a pure equity investment because the capital invested is reduced every year by cancellation of units to generate fund for payment of risk premium every year. This erosion of fund ultimately leads to a substantially lower return. Hence a policyholder must not have the illusion that he can get very good returns on his investment through Ulip.

Buy life insurance early

Both life insurance and market investment need to be adopted early; the former yields the benefit of lower premium while the later yields the benefit of compounding. In investments, compounding leads to rapid building up of wealth whereas in insurance the difference enjoyed by the early bird is not so significant. Some intermediaries use the word ‘investment’ while marketing endowment policies or policies with guaranteed returns but this is not at all fair to a prospect. The policyholder’s decisions are influenced by emotions and not by hard figures or the market conditions. Hence he must be made to understand that his money will be safe with moderate growth and he need not keep tracking the market or fear a market crash.

While an investor has to be active in the market regularly to protect or to make his investment grow, the policyholder has to just let the insurers do the job to honour their promise. The conservative investment approach safeguards the policyholders from any unexpected fall in returns. The insurers are thus able to announce reasonable allotment of the reversionary bonus to all the policyholders having with-profit policies.

This unique safety is also needed by the people who want to save with high guarantee of reasonable returns on the amount saved every year. But any return so earned by the policyholders cannot match the returns usually earned at the bourses. The stocks in an emerging economy like ours can provide an average yield of at least 10% per annum in 20 years or so but such an ambition is fraught with risks of market collapse. So, when it comes to choosing investment avenues it is correct to say ‘Sabse pehle life insurance’ (life insurance before everything else).