While there are different benefits of ULIPs, many policyholders might wonder whether the market linked returns are guaranteed or not. So, let’s understand.
The Workings of A ULIP Plan
In a ULIP plan, you choose the policy tenure, premium paying tenure, premium paying frequency and the amount of premium that you want to invest.
You also choose the market linked fund for investment. Primarily, ULIPs offer three types of market linked funds –
- Equity funds that invest primarily in equity-oriented securities and have a high risk, high return profile.
- Debt funds that invest primarily in debt instruments and have a low-risk, low-return profile.
- funds that invest in a combination of both equity and debt instruments. Such funds have a moderate risk and moderate return profile.
After that, the premium that you pay, net of applicable charges and taxes, is invested in the chosen funds. The funds, in turn, invest in a diversified mix of securities that are available in the financial markets. Then, as the value of the underlying securities changes depending on the market performance, the value of the portfolio changes.
ULIP Returns
As explained earlier, the return of ULIP can be volatile as it invests in market linked securities. Hence, ULIP returns depend on the portfolio where the fund has been invested. With the market movement, the value of the portfolio also changes. Therefore, ULIP returns are not guaranteed.
For instance, say you invest in an equity fund which invests in five equity stocks. The values of each stock are as follows –
| Stock A | Rs. 10 |
| Stock B | Rs. 12 |
| Stock C | Rs. 14 |
| Stock D | Rs. 16 |
| Stock E | Rs. 20 |
If one unit of each stock is taken, the overall value of the portfolio is Rs.10 + Rs.12 + Rs.14 + Rs.16 + Rs.20 = Rs.72
Two days later, the prices change and are as follows –
| Stock A | Rs. 12 |
| Stock B | Rs. 13 |
| Stock C | Rs. 15 |
| Stock D | Rs. 15 |
| Stock E | Rs. 19 |
Now the overall value of the portfolio is Rs. 12 + Rs. 13 + Rs. 15 + Rs. 15 + Rs. 19 = Rs.74
While some stocks suffered a fall in prices, others grew and the overall value of the portfolio grew by Rs. 2 giving you a market-linked return on your investment.
How to Calculate ULIP Returns?
There are two ways1 in which you can calculate your ULIP returns. They are explained below –
● Absolute returns
Absolute returns mean the total returns that you earn from the ULIP over a specified investment tenure. It is also called a ‘Point-to-Point’ return since it measures the returns from one time to another.
Absolute returns can be calculated simply by knowing the initial NAV (Net Asset Value) of the fund and the current value. The formula is as follows1 –
Absolute returns = [(Present NAV – NAV at the time of initial investment) / NAV at the time of initial investment] * 100
For instance, say the initial NAV of the fund when you invested was Rs. 10 and the current NAV is Rs.12, the absolute return would be calculated as follows –
Absolute return = [(Rs. 12 – Rs. 10) / Rs.10] * 100 = (Rs. 2 / Rs. 10) * 100 = 20%
● Compounded Annual Growth Rate (CAGR)
The Compounded Annual Growth Rate or CAGR measures the average annual return of the ULIP. It is calculated using the following formula1 –
CAGR = {[(current NAV/initial NAV) ^ (1/number of years)] – 1} *100
For instance, say the initial NAV is Rs. 10 and the current NAV is Rs. 12 and you stayed invested for 5 years, the CAGR would be calculated as follows –
CAGR = {[(Rs.12/Rs.10) ^ (1/5)] – 1} *100 = 3.71%
Does ULIP Offer Guaranteed Returns?
When it comes to ULIP returns, there is no guarantee2. ULIPs do not offer any guaranteed returns simply because of the fact that they invest in market-linked securities. The value of funds changes frequently and the returns depends upon market performance.
The policyholder has the option to invest in different types of funds like equity, debt, balanced or hybrid, based on their risk appetite, investment objective and time horizon.
Depending on how the ULIP portfolio and its funds perform, the returns are determined. If the value of the portfolio falls, the returns could also fall and the ULIP could end up making a loss. On the other hand, if the value of the portfolio rises, the profit generated from the same would reflect in the fund value.
Conclusion
Though ULIP returns are not guaranteed, it has the potential to outgrow your wealth in the long-term, subject to market highs and lows.
ULIPs also allow tax deductions and exemptions under Income Tax Act, 1961, subject to provisions stated therein.
FAQs
1. Does ULIP offer guaranteed returns?
No, the returns under ULIPs are not guaranteed3. They depend on the performance of the portfolio which, in turn, depends on the performance of the underlying securities. Since the securities are market-linked, the returns fluctuate with market movements and are not guaranteed.
2. What is the absolute return in ULIP?
Absolute return means the total returns that you have earned from the ULIP over a specified period of time. It is calculated by deducting the current NAV from the initial NAV, dividing the result by the initial NAV and multiplying by 1001.
3. Is ULIP a good investment option?
Each investment depends on your overall financial goal and risk appetite. However, ULIP could be a preferable investment option because of the following reasons –
- It provides dual benefits of insurance protection and investment returns. The insurance cover provides financial security against uncertain demise while the investment market-linked returns help you create a corpus for your goals, in long run.
- You can claim tax benefits on the premium paid for the plan under Section 80C of the Income Tax Act, 19614 under old income tax regime.
- The lock-in period is only 5 years4 allowing you to create a corpus for your mid-term financial goals.
- You get the flexibility of partial withdrawals and switching to manage your investment. ULIPs offer to switch between funds, i.e. from equity to debt and vice versa, without any tax implications, subject to policy terms & conditions.
- The death benefit is tax-free.4
- The maturity benefit also is tax-free under Section 10(10D) if the annual premium is not more than Rs. 2.5 lakhs for policies bought on or after 1st February 20215. Moreover, the premium should be limited to 10% of the death sum assured6 for policies issued on or after 1 April 2012 and for policies issued before 1st April 2012, the annual premium should be limited to 20% of the death sum assured to claim the tax free returns under the policy6. For individuals suffering from a disease or disablement defined under Section 80DDB or 80U, the premium should be 15% of the sum assured if the policy is issued on or after 1st April 20136. If policy is issued on or after 1 Feb 2021 with annual premium more than Rs. 2.50 lakhs, gain from such policy will be taxable as Capital gain in the hands of recipient.
References
1. https://www.moneycontrol.com/news/business/personal-finance/heres-how-you-can-measure-your-ulip-returns-while-reviewing-investments-2922861.html
2. https://cleartax.in/s/unit-link-insurance-plan-ulip
3. https://www.outlookmoney.com/ask/can-ulips-give-guaranteed-returns-2420
4. https://cleartax.in/s/unit-link-insurance-plan-ulip
5. https://www.tribuneindia.com/news/impact-feature/exploring-the-taxation-for-ulips-purchased-after-february-2021-and-other-tax-rules-473019
6. https://incometaxindia.gov.in/tutorials/20.%20tax%20benefits%20due%20to%20health%20insurance.pdf
7. https://economictimes.indiatimes.com/markets/expert-view/can-you-ditch-mutual-funds-and-stocks-and-just-buy-ulips-vivek-jain-answers/articleshow/98168722.cms?from=mdr
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