In 2018, the introduction of Long-Term Capital Gains (LTCG) tax on equity investments came as a decisive factor in making returns from a Unit-Linked Insurance Plan(ULIP) more prominent and attractive. As we all know, ULIP plans have an investment component that works likea mutual fund buthas a different cost structure, while different income-tax rules guide the insurance component of the plan.
Under Section 10 (10D) of the Income-Tax Act, the proceeds from ULIPs (whether maturity or early surrender) are free from taxation. Also, the death benefits of the plan are tax-free. On the other hand, the proposed LTCG tax of 10.4percenton equity investments made through mutual funds puts them a step below ULIPs.
This, in turn, has stirred up the age-old debate of which plan is better of the two, ULIPs or mutual funds? Whether you should go for the convenience of ULIPS or the efficiency of keeping investment and insurance separate by investing in mutual funds and buying term plans?According to recent studies, the math now favours ULIPs. However, let’s understand the difference between ULIP and Mutual Fundclosely and see which one supersedes the other regarding benefits.
Difference Between ULIP And Mutual Fund
- Taxability
While ULIPs have always had the edge over mutual funds regarding better long-term tax gains, the new LTCG tax gives them a fresh impetus. If we talk about equity mutual funds or balanced schemes, which were held for one year or less, the short-term capital gains incurred taxation at 10 percent. In the case of ULIPs; however, they are mainly treated as insurance products. As a result, the short-term gains arefree from any taxation under Sec 10(10D). Also, the tax-free benefits of ULIPs extendbeyond equity funds and into the fixed income space. This implies that ULIPs fund offersdebt and liquid fund options along with equity funds.
- Costs
Traditionally, mutual funds have always been very cheap. However, ULIPs are catching up to them by offering lower policy charges than before. The cost structures of some of the newerULIPs are so economical that they almost stand head-to-head with the low-cost direct mutual fund plans. Top-performing ULIPs from reputable insurers levy specific charges including those for policy administration and fund allocation during the lock-in period of the ULIP. In the long term; however, the plan can recover the cost of all such charges and avail a higher ROI than mutual funds.
- Returns
While insurance companies argue in favour of mortality charges concerning ULIPs, since the plan provides life coverage to the policyholder, they more than makeup for the deficit through higher NAV-based returns. On the other hand, mutual funds don’t feature mortality charges and have delivered consistently better returns over the years. Overall, mutual funds are better placed at managing investments. ULIPs; however, are more adept at protection and risk management along with an investment benefit.
- Flexibility
It is true that ULIPs have a lock-in period of 5 yearsduring which, a bevvy of charges including those for fund allocation and policy management eat into the invested amount. However, these charges are reduced to zero once the policy exceeds its lock-in period and the returns on the investment more than makeup for the deficit. Also, ULIPs from reputable insurers like Max Life Insurance allow you to switch between equity and debt funds at will, depending upon your risk appetite and investment goals, without any extra charges. You can also make partial withdrawals without any hitch and avail loyalty additions on your policy in the long run. Mutual funds too offer similar benefits,but unlike ULIPs, they don’t have a lock-in period (except for Equity-Linked Savings Schemes (ELSS), which are the only variety of mutual funds in India to have a lock-in period of 3 years).
Concluding:
While mutual funds have been a preferred form of investment for many, ULIPs have seen an upsurge in their popularity lately. Some may argue that making policyholders stay invested in a ULIP plan for five years hampers their ROI, unlike mutual funds. With a lock-in period; however, ULIPs (especially child plans) can help evoke a sense of responsibility in young professionals and parents.
That said, most mutual funds don’t have a lock-in period; thereby, investors tend to withdraw investments after only two or three years of remaining invested. This habit often proves inimical to wealth creation. You can maximise your returns if you stayinvested for a longer duration.
Furthermore, if your financial goal is planning for your retirement or creating a corpus for your child’s higher education, ULIPs are the best investment instrument to put your money as they offer the dual benefits of life cover and money market-linked returns along with tax-savings up to Rs. 1,50,000 under Section 80C.
On the other hand, if you wish to make short-term investments, investing in mutual funds is probably better as they don’t have any lock-in period (except ELSS). Overall, you need to take your time to decide on your life goals and do ample research before choosing a ULIP or a mutual fund to invest.