Reasons to Invest in Equity Through ULIPs
There are various reasons to choose equity investments in ULIPs. Whether you are looking for attractive returns or creating a good corpus for your financial goals, equity-oriented funds in ULIPs can prove to be a good choice. Given below are some reasons why choosing equity makes sense -
Long-term Investments
The stock market can be quite volatile in the short term. In some cases, you can see wild price movements even during a single trading session. That's why it can be quite risky to bet on stock price movements in the short term. But when it comes to long term investing, equities might outperform other asset classes, although it comes with intermittent volatility and market corrections. Moreover, over the long-term horizon, risks tend to smooth out. So, if are looking for better returns in the long term, equity investments may be the way to go. You can consider investing in Unit Linked Insurance Plans (ULIPs) for long-term goals (10 years and more) because ULIPs have a 5-year lock-in period which will encourage long-term investments. Further equity oriented ULIPs have the potential to offer higher returns over longer time periods.
Goal-Based Investments
Many people put money in equities and wait for good returns. That's one way to go about it but there is a better option: goal-based investment planning. Create a list of long term goals that you want to achieve in say, 10, 15 or even 30 years down the future. For example, you may want to create a corpus so that your daughter can study abroad in ten years or you may want to gift a house to your son at the time of his wedding. In addition to these goals, you may also want to create a substantial amount of corpus for your retirement.
All these are examples of long term goals. By identifying specific long-term goals, you can allocate investments towards these different goals. And for achieving these goals, ULIP plans are a great option. You can invest specific amounts of money each month based on your financial requirements and risk capabilities. By investing steadily and giving time for your money to grow, you can create a large corpus of money to achieve your life goals.
For example, if at the age of 40, you invest ₹ 10,000 each month in equity-linked ULIPs, you may earn around ₹60 lakhs (assuming a 8% annual rate of return) or ₹37 lakhs (assuming a 4% rate of return) by the time you retire, say at 60. But if you started investing the same amount each month 10 years earlier, you might create a corpus of ₹ 1.28 crore (assuming a 8% annual rate of return) or ₹ 55 lakhs (assuming a 4% rate of return). This is possible through the power of compounding. And in addition to getting a corpus when the policy matures, if anything were to happen to you, your family still gets insurance cover to achieve their life goals. (Note: Returns are illustrative and not guaranteed.)
Utilise the switching facility
As you grow older or near the maturity of the insurance policy, you need to spread your investments over different asset classes. This is to minimize your risk and protect your investment capital. For example, imagine you are investing for your retirement fund. In the beginning, investing a major portion of your fund in equity is a good idea. But as you near your retirement age, it is better to gradually shift your funds from equity to debt, which are safer investment avenues. This is to avoid any unexpected losses in case of a market crash. This is extremely easy when you invest through ULIPs as it offers a switching facility. Here, you have the option to switch between different equity funds to debt funds (or vice versa) at any point in time. This feature protects you against market risks and helps you optimize your returns. However, the number of free switches per year may be limited as per product conditions.
Potential for Higher Returns
As you give your equity-oriented investments time, you can enjoy two benefits. One, the volatility risks might reduce and you might earn attractive returns. Two, the compounding of returns would help in growing your savings considerably. In fact, with compounding, the longer you stay invested, the higher would be the returns that you can generate.
Tax Advantages
Equity-oriented investments in ULIPs might incur a tax implication if you bought the policy on or after 1st February 2021 and the aggregate premium is more than ₹2.5 lakhs or irrespective of premium amount, policy is not meeting Sec.10(10D) condition (i.e. 10x sum assured).
If there is a tax implication, you can enjoy savings on long-term capital gains tax, incurred if you hold the investment for 12 months or more, are tax-free up to ₹1.25 lakhs, under the provisions of Section 10(10D) of the Income Tax Act, 1961. Even if the returns exceed ₹1.25 lakhs, the excess would be taxed at 12.5% only. So, even if you are in a higher tax bracket, you can enjoy tax savings.
Dual Benefit of Insurance and Investment
ULIPs are life insurance plans that help you enjoy life insurance coverage during the policy tenure while major part of the premiums are invested in market-linked returns. Thus, ULIPs give you the dual benefit of insurance protection and investment.
Even if you choose equity-oriented funds in ULIPs, you would be able to benefit with attractive equity returns while being financially secured against unforeseen eventualities.
Understanding How ULIPs Channel Your Money into Equity Investments
When you choose ULIPs, you choose the premium that you want to pay and other policy details like the sum assured (expressed as a multiple of the premium), policy tenure, premium payment tenure and frequency, optional riders, etc.
You also choose the funds to which you want to allocate your premium. ULIPs can have more than one type of equity fund. You can choose one or more of these funds to invest in equity through ULIPs and here’s how your premiums would be channelled into them –
- The applicable charges are deducted from the premium that you pay
- The premium, net of charges, is allocated to the selected equity funds
- If you choose more than one type of equity fund, you have to specify the percentage of allocation into each
- The plan would, then, allocate your net premium in the chosen funds in the specified proportion.
What Risks Come with Equity Investments in ULIPs?
When you choose equity investment in ULIPs, you should know about the underlying risks too. The primary risk is the risk of market volatility. Since equity markets are volatile, here’s what might happen –
- You can get very high returns if the markets rally and the fund value is growing quickly
- You might suffer a decline in the fund value if there’s a correction in the market or if the market falls
- Economic or political instability can also cause a sudden fall in the markets which might affect the fund value negatively
It is important to know the risks when investing in equity through ULIPs.
Tips to Optimize Returns from Equity Investments in ULIPs
Here are some tips that can help you optimize returns from equity investments in ULIPs –
- Switch to debt-oriented funds if the market starts falling so that you can protect the returns generated.
- Choose a long-term policy tenure so that the risks are smoothed out and you can earn attractive returns through compounding.
- Don’t panic when there are market corrections.
- If, on maturity, the market is rising, you can stay invested longer through the settlement option feature. The feature allows you to take the maturity benefits in instalments over the next five years giving you additional exposure to equity funds.
Key Takeaways
- ULIPs offer equity-oriented funds that can help you grow your savings if you don’t mind the underlying risk profile.
- Equity investing in ULIPs is preferable for long-term growth, attractive returns, tax benefits, switching flexibility, etc.
- When you choose equity funds in ULIPs, the allocated premium is directed to the chosen funds to allow your money to grow with equity markets.
- There is a risk of volatility with equity investments which you should know when choosing such funds.
- To optimize your returns, stay invested for a longer tenure, switch at the right time, opt for the settlement option, etc.
Conclusion
Investing in equity means that the performance of your fund is directly influenced by stock market outcomes. Therefore, individuals with a higher risk tolerance may consider equity-linked ULIPs as a strategy to achieve their financial objectives. However, before choosing equity investments, it is recommended to opt for a long-term investment strategy for attractive returns. Also, use the switching facility wisely to protect your returns in a falling market. Assess and find the right ULIP that matches your needs and start saving for your financial goals.
FAQs
How does return risk differ in ULIP vs Other equity investments?
ULIPs offer different types of funds, equity funds being one of them. Moreover, with ULIPs, you can switch funds when markets turn volatile and protect your equity returns. Other equity investments might not offer other types of funds or switching facilities which makes them riskier.
Can ULIPs provide similar returns to direct equity investments?
The returns might vary because ULIPs also provide life insurance coverage and other flexible features of switching, partial withdrawals, etc. As such, ULIPs have some charges associated with them which affects returns.
Moreover, ULIPs offer a diversified equity portfolio to spread out risks while direct equity investments can give you access to only a handful of options. So, the returns are different.
Can ULIPs offer the same liquidity as equity investments?
ULIPs have a lock-in period of 5 years. Once the lock-in period is over, you can enjoy liquidity through partial withdrawals.
How does flexibility differ in ULIP vs direct equity investment?
ULIPs allow the flexibility of fund switch and partial withdrawals which might be missing in direct equity investments.
