ULIP vs Mutual Funds

ULIP and Mutual Funds: Basic Differences

Besides the differences between ULIPs and mutual funds stated above, here’s a comparison table between the two –

Advantages of ULIP Plans

Some advantages of ULIPs are as follows –

1. Insurance coverage

   :- Being a life insurance policy, ULIPs provide financial coverage against the risk of premature demise. If the life assured passes away during the policy tenure, a death benefit is paid which can help the family deal with the financial loss suffered. Moreover, if the life assured had unfulfilled financial goals or an existing debt, the death benefit can be used to fulfil the goal or pay off the debt. Thus, besides investments, ULIPs also provide financial security by helping the family cope with the financial impact in the event of the life assured's demise.

2. Market-linked returns

   With ULIPs, you can participate in the market and earn market-linked returns on your investments. If the markets are performing well, your investments can grow considerably and help you build a suitable corpus for your financial goals. Moreover, if you choose a long-term tenure, the market-linked returns can grow your corpus considerably with the benefit of compounding.

3. Professional fund management

   The fund options available under ULIPs are managed professionally by expert fund managers. They pick the securities that comprise the fund portfolio. Moreover, they buy and sell securities to help manage the portfolio in line with the fund's investment objective while minimising investment risks.

4. Flexibility

   ULIPs offer a high degree of flexibility so that you can customise the plan per your needs and also have complete control over your investments. Some of the flexible features under ULIPs are as follows –

   • Choice of plan details –

     You can choose the premium that you want to invest (subject to the minimum and maximum limits prescribed), the premium payment term and frequency, the sum assured (if a choice of sum assured multiple is provided), the funds to invest in, the policy tenure and the riders to add to the policy.

   • Switching –

     ULIPs give you the freedom to change the investment funds if your investment strategy changes. This is called switching and the facility is allowed under all ULIPs. With switching, you can change investment funds based on your investment strategy and market outlook. For instance, if the equity market turns volatile, you can switch your equity funds to debt funds to reduce exposure to market volatility.

   • Partial withdrawals –

     Partial withdrawals allow you to withdraw from the fund value during the policy tenure. ULIPs have a lock-in period of 5 years after which you can make partial withdrawals for your financial needs and get easy liquidity.

   • Premium redirection –

     Premium redirection means changing the future premium allocation to another fund. You can opt for the redirection feature to invest your premium in other funds offered by the ULIP.

   • Top-up premiums –

     Top-ups allow you to invest more in the ULIP if you want to boost your investments. Depending on the ULIP selected, you can pay top-up premiums and boost the fund value to create a higher corpus for your financial goals.

5. Tax Benefits

   To add the cherry to the cake, ULIPs are highly tax-efficient. Here’s how –

   1. The premium paid for the policy qualifies as a deduction under Section 123 (under old tax regime) of the Income Tax Act, 2025, the maximum deduction allowed is Rs.1.5 lakhs. To claim the deduction, the maximum allowed premium is defined as follows –

      1. 20% of the capital sum assured for policies issued on or before 31st March 2012¹
      2. 10% of the sum assured for policies issued on or after 1st April 2012¹
      3. 15% of the capital sum assured for policies issued on or after 1st April 2013 if the life assured suffers from a disease or disability defined under Sections 154 or 128 of the Income Tax Act, 2025 respectively¹.

   2. The death benefit received is generally tax-free, under the applicable provisions of the Income Tax Act.

   3. The maturity benefit received from ULIPs is also tax-free under Section 11 (read with Schedule II, Sr.No.2) of the Income Tax Act, 2025, if the premium is up to 10%, 15% or 20% of the sum assured depending on when the policy was issued.

   4. However, for policies issued on or after 1st February 2021, the maturity benefit will be tax-free under Section 11 (read with Schedule II, Sr.No.2) of the Income Tax Act, 2025, if the aggregate annual premium paid for all ULIPs is up to Rs.2.5 lakhs per year² and subject to satisfaction of conditions.

   5. Switching and partial withdrawals may be tax-exempt, subject to prevailing tax laws.

Advantages of Mutual Funds

Some of the advantages of mutual funds are as follows –

• Market-linked returns

  Mutual funds are market-linked avenues which invest in a variety of securities like equity, debt, arbitrage, gold, indices, etc. With mutual funds you can get market-linked returns which can help you grow a good corpus for your goals.

• Professional fund management

  Mutual funds are managed by expert fund managers who manage the portfolio to enhance its return potential while reducing the investment risks. So, with mutual funds you can get the benefit of professional fund management.

• Easy liquidity

  Other than some mutual fund categories (Equity Linked Saving Schemes, Fixed Maturity Plans in debt funds close-ended funds, etc.), there’s no lock-in period. You can redeem your investment any time and convert it into cash. This comes in handy for meeting financial emergencies.

• Affordable investments

  Mutual funds are affordable investment avenues wherein you can start a Systematic Investment Plan (SIP) with as little as Rs.100 per month⁷. Thus, mutual funds are suitable for small investors too who have a limited saving at their disposal.

• Tax benefits

  If you choose the ELSS scheme of mutual funds, you can claim a tax deduction under Section 123 (under old tax regime) of the Income Tax Act, subject to provisions stated therein, up to Rs.1.5 lakhs on the invested amount. This helps you reduce your tax liability. Moreover, long-term gains from equity are tax-free up to Rs.1.25 lakhs a year.

Factors to be considered while choosing between ULIP and Mutual Funds

When choosing between ULIPs and mutual funds, here are some factors that can be considered –

1. Insurance coverage – assess your coverage needs and then choose between the two.
2. Investment horizon – Identify your investment horizon, i.e., for how long can you stay invested and then see whether ULIPs or mutual funds will align with your horizon
3. Investment amount – estimate how much you want to save and then see which investment avenue aligns with your savings
4. Tax implication – plan your taxes in advance and choose an avenue which would give you the desired tax efficiency
5. Charge structure – also compare the charges of ULIPs and mutual funds when choosing between the two

Conclusion

Both ULIPs and mutual funds help you save and create a financial corpus for your goals. However, these investment avenues have their fair share of differences. So, understand what they are, how they work and know their respective pros and cons. Choose an avenue which that aligns with your investment preference, financial goals, risk appetite, and insurance requirements. You can also invest in both ULIPs and mutual funds to create a diversified portfolio and also to enjoy the benefits of both.

Reference:

¹https://cleartax.in/s/life-insurance-taxability

²ulip: How capital gains on Ulips will be calculated: CBDT notification - The Economic Times