How long will you munch it?

A Ulip or a combo meal of an ELSS and a term cover? That depends on the duration of the meal, the investment horizon Should you go for unit-linked insurance plans (Ulips) or a combination of a term life cover and an equity-linked savings scheme (ELSS)? It makes sense to choose ELSS from the hemisphere of mutual funds for a comparison with Ulips because the tax breaks on ELSS and Ulips are similar. There are two types of Ulips. The first (Type I) pays the higher of fund value or sum assured as death benefit. The second (Type II) pays both sum assured and fund value. Till Type II Ulips hit the market, the ELSS and term plan combo was better. But Type II Ulips have created confusion (see When You Choose a Term Plan & an ELSS, When You Choose a Type II Ulip and The Real 2-in-1 Ulip, 15 July 2007). Financial planners are of the view that one product should meet one financial objective and that investment and insurance should not be mixed. Says Gaurav Mashruwala, a Mumbai-based financial planner, “I try to keep the insurance and investment elements separate while preparing financial plans for clients.” We ran the numbers to settle the contest between Type II Ulips (referred to as Ulips from now on) and the combo of ELSS and term plans. Cost. The visible cost in an ELSS, which is a type of mutual fund, is the entry cost, around 2.25 per cent in most cases. A term plan is the cheapest life cover. The entry costs of Ulips are higher than those of ELSS. The premium allocation charge is 5-60 per cent of the premium in Year I, falling later to 2-4 per cent of the premium every year. Among other charges are mortality charge for the life cover and policy administration fees. Both are deducted every month. Holding period. Like other life covers, Ulips should be bought for the long term, 10 or 15 years. The Insurance Regulatory and Development Authority has emphasised this long-term nature by stipulating that insurers levy a charge if an investor surrenders a Ulip within 5 years of buying it. In the following example, mutual funds are ahead in cost-adjusted returns in the medium term. Ulips win in the longer term. Here's how. Assumptions. We assume that a 30-year-old male deploys Rs 1 lakh every year for 20 years in both a Ulip and in the combo of a term cover and an ELSS to compare the results of the two options. In the combo, the annual premium for the life cover with a sum assured of Rs 20 lakh is taken to be Rs 6,000. The remaining Rs 94,000 is invested every year in an ELSS which has an entry load of 2.25 per cent and a recurring charge of 2.20 per cent of the fund value. In the Ulip, the sum assured is Rs 20 lakh, the tenure 20 years, the premium Rs 1 lakh per year, the option 100 per cent growth and the fund management charge 1.5 per cent. Figures for fund value and death benefit take into account all the other charges—those related to premium allocation, mortality, fund management and policy administration. The annual growth rate is 10 per cent. Comparison Returns. If you survive the policy term of 20 years, the fund value in ELSS is Rs 43,18,519 (the other part of the combo, the term life cover, won’t yield anything), lower than Rs 46,22,490 from the Ulip (see Maturity Benefits). But it is only in the 10th year that the Ulip fund value overtakes the ELSS value. This flip is observed in case of claims occurring after the death of the policyholder too (see Death Benefits). So, if you are looking at a horizon of 10 years or less, the combo is likely to give you more. For horizons beyond a decade, Ulips are a better deal. Exits. The lock-in period of ELSS is three years. After that, you can withdraw your fund value without any leakages. However, most Ulips have substantial surrender charges if you exit within 10 years. Disclosures. Despite the numbers, since disclosures remain tacky and costs hidden in Ulips, a term plan plus ELSS combination will work. Bear these factors in mind along with the crucial aspect of time horizon while choosing between a Ulip and a combination of a term plan and an ELSS.

Sunil Dhawan-24/10/2007,http://www.outlookmoney.com/