CHAPTER – 1 INTRODUCTION TO INSURANCE INDUSTRY

1.1 What is “Insurance”?

Insurance is a policy from a large financial institution that offers a person, company, or other entity
reimbursement or financial protection against possible future losses or damages.

Insurance is bought in order to hedge the possible risks of the future which may or may not take place.
This is a mode of financially insuring that if such an incident happens then the loss does not affect the
present well-being of the person or the property insured. Thus, through insurance, a person buys security
and protection.

Insurance in its basic form is defined as “ A contract between two parties whereby one party called insurer
undertakes in exchange for a fixed sum called premiums, to pay the other party called insured a fixed
amount of money on the happening of a certain event."

In simple terms it is a contract between the person who buys Insurance and an Insurance company who
sold the Policy. By entering into contract the Insurance company agrees to pay the Policy holder or his
family members a predetermined sum of money in case of any unfortunate event for a predetermined
fixed sum payable which is in normal term called Insurance Premiums.

Insurance is basically a protection against a financial loss which can arise on the happening of an
unexpected event. Insurance companies collect premiums to provide for this protection. By paying a very
small sum of money a person can safeguard himself and his family financially from an unfortunate event.
For Example if a person buys a Life Insurance Policy by paying a premium to the Insurance company ,
the family members of insured person receive a fixed compensation in case of any unfortunate event like
death.

There are different kinds of Insurance Products available such as Life Insurance , Vehicle Insurance,
Home Insurance, Travel Insurance, Health or Mediclaim Insurance etc.

1.2 History & Growth of Insurance Industry in India:

In India, insurance has a deep-rooted history. 1818 saw the advent of life insurance business in India with
the establishment of the Oriental Life Insurance Company in Calcutta. This Company however failed in
1834. In 1829, the Madras Equitable had begun transacting life insurance business in the Madras
Presidency. 1870 saw the enactment of the British Insurance Act and in the last three decades of the
nineteenth century, the Bombay Mutual (1871), Oriental (1874) and Empire of India (1897) were started in
the Bombay Residency. This era, however, was dominated by foreign insurance offices which did good
business in India, namely Albert Life Assurance, Royal Insurance, Liverpool and London Globe Insurance
and the Indian offices were up for hard competition from the foreign companies.

In 1914, the Government of India started publishing returns of Insurance Companies in India. The Indian
Life Assurance Companies Act, 1912 was the first statutory measure to regulate life business. In 1928,
the Indian Insurance Companies Act was enacted to enable the Government to collect statistical
information about both life and non-life business transacted in India by Indian and foreign insurers
including provident insurance societies. In 1938, with a view to protecting the interest of the Insurance
public, the earlier legislation was consolidated and amended by the Insurance Act, 1938 with
comprehensive provisions for effective control over the activities of insurers.

The Insurance Amendment Act of 1950 abolished Principal Agencies. However, there were a large
number of insurance companies and the level of competition was high. There were also allegations of
unfair trade practices. The Government of India, therefore, decided to nationalize insurance business.

An Ordinance was issued on 19th January, 1956 nationalizing the Life Insurance sector and Life
Insurance Corporation came into existence in the same year. The LIC absorbed 154 Indian, 16 non-
Indian insurers as also 75 provident societies—245 Indian and foreign insurers in all. The LIC had
monopoly till the late 90s when the Insurance sector was reopened to the private sector.

1.2.1 The history of general insurance:

It is dates back to the Industrial Revolution in the west and the consequent growth of sea-faring trade and
commerce in the 17th century. It came to India as a legacy of British occupation. General Insurance in
India has its roots in the establishment of Triton Insurance Company Ltd., in the year 1850 in Calcutta by
the British. In 1907, the Indian Mercantile Insurance Ltd was set up. This was the first company to
transact all classes of general insurance business.

The year 1957 saw the formation of the General Insurance Council, a wing of the Insurance Association
of India. The General Insurance Council framed a code of conduct for ensuring fair conduct and sound
business practices.

In 1968, the Insurance Act was amended to regulate investments and set minimum solvency margins.
The Tariff Advisory Committee was also set up then.

In 1972 with the passing of the General Insurance Business (Nationalisation) Act, general insurance
business was nationalized with effect from 1st January, 1973. 107 insurers were amalgamated and
grouped into four companies, namely National Insurance Company Ltd., the New India Assurance
Company Ltd., the Oriental Insurance Company Ltd and the United India Insurance Company Ltd. The
General Insurance Corporation of India was incorporated as a company in 1971 and it commence
business on January 1sst 1973.

This millennium has seen insurance come a full circle in a journey extending to nearly 200 years. The
process of re-opening of the sector had begun in the early 1990s and the last decade and more has seen
it been opened up substantially. In 1993, the Government set up a committee under the chairmanship of
RN Malhotra, former Governor of RBI, to propose recommendations for reforms in the insurance
sector.The objective was to complement the reforms initiated in the financial sector. The committee
submitted its report in 1994 wherein , among other things, it recommended that the private sector be
permitted to enter the insurance industry. They stated that foreign companies be allowed to enter by
floating Indian companies, preferably a joint venture with Indian partners.

Following the recommendations of the Malhotra Committee report, in 1999, the Insurance Regulatory and
Development Authority (IRDA) was constituted as an autonomous body to regulate and develop the
insurance industry. The IRDA was incorporated as a statutory body in April, 2000. The key objectives of
the IRDA include promotion of competition so as to enhance customer satisfaction through increased
consumer choice and lower premiums, while ensuring the financial security of the insurance market.

The IRDA opened up the market in August 2000 with the invitation for application for registrations.
Foreign companies were allowed ownership of up to 26%. The Authority has the power to frame
regulations under Section 114A of the Insurance Act, 1938 and has from 2000 onwards framed various
regulations ranging from registration of companies for carrying on insurance business to protection of
policyholders’ interests.

In December, 2000, the subsidiaries of the General Insurance Corporation of India were restructured as
independent companies and at the same time GIC was converted into a national re-insurer. Parliament
passed a bill de-linking the four subsidiaries from GIC in July, 2002.

Today there are 24 general insurance companies including the ECGC and Agriculture Insurance
Corporation of India and 23 life insurance companies operating in the country.

The insurance sector is a colossal one and is growing at a speedy rate of 15-20%. Together with banking
services, insurance services add about 7% to the country’s GDP. A well-developed and evolved
insurance sector is a boon for economic development as it provides long- term funds for infrastructure
development at the same time strengthening the risk taking ability of the country.

1.2.2 Current Insurance Market Structure

General Insurance business in India was under complete control of four Government insurance
companies for nearly three decade.
After much deliberation finally the market was opened for competition from December 2000 and also
Government has de-linked four Public sector companies from holding company GIC to operate as
independent company. In addition to four Public Sector insurance companies the Insurance Regulatory
and Development Authority (ìIRDAî) has issued licenses to the eight Private General Insurance
Companies.

1.3 Basic functions of Insurance:

There are primarily three types of functions of Insurance which are as follows:

1. Primary Functions

2. Secondary Functions

3. Other Functions

1.3.1 Primary functions of insurance

• Providing protection – The elementary purpose of insurance is to allow security against future risk,
accidents and uncertainty. Insurance cannot arrest the risk from taking place, but can for sure allow
for the losses arising with the risk. Insurance is in reality a protective cover against economic loss,
by apportioning the risk with others.

• Collective risk bearing – Insurance is an instrument to share the financial loss. It is a medium
through which few losses are divided among larger number of people. All the insured add the
premiums towards a fund and out of which the persons facing a specific risk is paid.

• Evaluating risk – Insurance fixes the likely volume of risk by assessing diverse factors that give rise
to risk. Risk is the basis for ascertaining the premium rate as well.

• Provide Certainty – Insurance is a device, which assists in changing uncertainty to certainty.

 1.3.2 Secondary functions of insurance

• Preventing losses – Insurance warns individuals and businessmen to embrace appropriate device
to prevent unfortunate aftermaths of risk by observing safety instructions; installation of automatic
sparkler or alarm systems, etc.

• Covering larger risks with small capital – Insurance assuages the businessmen from security
investments. This is done by paying small amount of premium against larger risks and dubiety.

• Helps in the development of larger industries – Insurance provides an opportunity to develop to

those larger industries which have more risks in their setting up.

1.3.3 Other functions of insurance

• Savings and investment tool – Insurance is the best savings and investment option, restricting
unnecessary expenses by the insured. Also to take the benefit of income tax exemptions, people
take up insurance as a good investment option.

• Medium of earning foreign exchange – Being an international business, any country can earn
foreign exchange by way of issue of marine insurance policies and a different other ways.

• Risk Free trade – Insurance boosts exports insurance, making foreign trade risk free with the help
of different types of policies under marine insurance cover.
 Insurance provides indemnity, or reimbursement, in the event of an unanticipated loss or disaster. There
are different types of insurance policies under the sun cover almost anything that one might think of.
There are loads of companies who are providing such customized insurance policies.

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Conclusion

In this chapter we have talked about the “Insurance”. It is utmost important to have the brief
understanding of Insurance before understanding ULIP. The authors have tried to provide the information
on the basic function of Insurance industry in India, how does it evolve and what is the current situation.
By going through the chapter the reader will have better understanding of ULIP part of the dissertation.

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CHAPTER – 2 TYPES OF INSURANCE PLAN

Most of the products offered by Indian life insurers are developed and structured around the "basic"
policies and are usually an extension or a combination of these policies. So, the following is the types of
policies and brief explanation about how do they differ from each other?

2.1 Term Insurance:

Term insurance covers you for a term of one or more years. It pays a death benefit only if the policy
holder dies during the period the insurance is in force. Term insurance generally offers the cheapest form
of life insurance. You can renew most term insurance policies for one or more terms even if your health
condition has changed.
However, each time you renew the policy for a new term, premiums may climb higher, just like a rent
agreement every time you renew the lease. This policy is particularly useful to cover any outstanding debt
in the form of a mortgage, home loan, etc.

For example if you have taken a loan of Rs10 lakh, you will have an option of taking an insurance to
protect the loan in case of passing away before the debt is repaid.

2.2 Whole Life Insurance:

Whole life insurance covers you for as long as you live if your premiums are paid. You generally pay the
same premium amount throughout your lifetime.

Some whole life policies let you pay premiums for a shorter period such as 15, 20 or 25 years. Premiums
for these policies are higher since the premium payments are made during a shorter period. There are
options in the market to have a return of premium option in a whole life policy. That means after a certain
age of paying premiums, the life insurance company will pay back the premium to the life assured but the
coverage will continue.

2.3 Money Back Insurance:

The money back plan not only covers your life, it also assures you the return of a certain per cent of the
sum assured as cash payment at regular intervals. It is a savings plan with the added advantage of life
cover and regular cash inflow. This plan is ideal for planning special moments like a wedding, your child's
education or purchase of an asset, etc. Money back plan have "participating" and "non participating"
versions in the market.

2.4 Endowment Assurance:

Endowment insurance is a level premium plan with a savings feature. At maturity, a lump sum is paid out
equal to the sum assured (plus dividends in a par policy). If death occurs during the term of the policy
then the total amount of insurance and any dividends (par policy) are paid out.

There are a number of products in the market that offer flexibility in choosing the term of the policy namely
you can choose the term from five to 30 years. There are products in the market that offer non
participating (no profits) version, the premiums for which are cheaper
2.5 Universal Life:

This is a flexible life insurance policy and is also market sensitive. You decide on the several investment
options on how your net premium are to be invested. While the money invested has the potential for
significant growth, such funds are subject to market risks including the loss of the principal.

2.6 Unit Linked Insurance:

Market-linked plans or unit-linked insurance plans (ULIP) are similar to traditional insurance policies with
the exception that your premium amount is invested by the insurance company in the stock market.

Market-linked insurance plans (MLP) mimic mutual funds and invest in a basket of securities, allowing you
to choose between investment options predominantly in equity, debt or a mix of both (called balanced
option).

The major advantage market-linked plans offer is that they leave the asset allocation decision in the
hands of investors themselves. You are in control of how you want to distribute your money among the
broad class of instruments and when you want to do it or pull out. Any of the products mentioned above
except term products could be unit-linked.

2.7 Riders:

Riders are additional add-on benefits that you could opt to include in your policy over and above what the
policy may provide. However, these additions come at an extra premium charge depending of the rider
you opt for. These riders cannot be bought separately and independently. The extra premium, nature and
characteristics of the riders are based on the base policy that is offered.

Some riders available in the market are:

1. Accident Death Benefit: Provides a additional amount in case death occurs as a result of
an accident.

2. Term Rider: It allows the payment of an additional amount should death of the insured
happens.
 3. Waiver of Premium: In case of total and permanent disability of life insured due to accident
or any other means this rider allows premiums on base policy or riders to be waived.

4. Critical Illness: It provides payment of an additional amount on the diagnosis of some

critical illness.

2.8 Annuities and Pension:

In an annuity, the insurer agrees to pay the insured a stipulated sum of money periodically. The purpose
of an annuity is to protect against risk as well as provide money in the form of pension at regular intervals.

Over the years, insurers have added various features to basic insurance policies in order to address
specific needs of a cross section of people.

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Conclusion
The information about the different kind of insurance plans is given in this chapter. By knowing the
different kind of insurance plan, the reader will able to distinguish between an insurance product and the
ULIP product, which will be discussed later in this dissertation.

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CHAPTER – 3 UNIT LINKED INSURANCE PLAN (ULIP)

3.1 What is ULIP?

ULIP stands for Unit Linked Insurance Policy (ULIP). Unit Linked Fund is a collection of the premiums
paid by the policy holders which is invested in a portfolio of assets to achieve the fund(s) objective. The
price of each unit in a fund depends on how the investments in the fund would perform. The fund is
managed by the insurance companies (Bajaj Allianz provides the Wheel Of Life Portfolio Strategy for
those who find investing and insuring as Greek and Latin. Our investment officers will select and invest in
the appropriate funds to balance and safeguard your investment.
ULIPs are a category of goal-based financial solutions that combine the safety of insurance protection
with wealth creation opportunities. In ULIPs, a part of the investment goes towards providing your life
cover. The residual portion is invested in a fund which in turn invests in stocks or bonds. The value of
investments alters with the performance of the underlying fund opted by you.

Simply put, ULIPs are structured such that the protection element and the savings element can be
distinguished and hence managed according to your specific needs, offering unprecedented flexibility and
transparency.

An investor's contribution to ULIPs gets invested in specific types of portfolios that investor chooses. The
policy typically pays back based on market returns on investments at the end of the insured period.
Therefore, it forms an interesting savings instrument that can get good risk cover.

3.1.1 Features of ULIP:

1. Units allotted under ULIP schemes have Net Asset Values (NAV) declared regularly, like a mutual
fund.

2. Investors can invest across types of portfolios similar to mutual funds - growth equity, balanced,
debt funds, etc. Investors can move across portfolios, typically at nominal costs.

3. Investors can invest as a lump sum (single premium) or make premium payments on an annual,
half-yearly, quarterly or monthly basis. Premium amounts can be changed over the course of
ULIP's life.

4. Investments qualify under Section 80C of the Income Tax Act. Maturity proceeds from ULIPs are
tax free. There are no long term capital gains tax and 10% short term capital gains tax on equity
portfolios within ULIP. For debt funds, long term capital gains tax is 10% while short term is at the
investor's marginal tax rate.

5. However, charges charged by insurance companies can be quite confusing - therefore, investors
should compare them with similar mutual funds to see if charges quoted are reasonable.
 3.1.2 Free Look Period

As per IRDA, the policyholder can seek refund of premiums if he disagrees with the terms and conditions
of the policy, within 15 days of receipt of the policy document (Free Look period). The policyholder shall
be refunded the fund value including charges levied through cancellation of units subject to deduction of
expenses towards medical examination, stamp duty and proportionate risk premium for the period of
cover.

3.1.3 Switching facility

“SWITCH” option provides for shifting the investments in a policy from one fund to another provided the
feature is available in the product. Many policies give you multiple fund options and you can decide your
allocation according to the market conditions. Switch should be used intelligently to protect your
investments during turbulent times by making a switch to safer debt funds and during boom time you
should switch to more of equity funds. You need to be aware of the fund options provided by the policy
before you sign up.

3.1.4 Exit options

If all the premiums have not been paid for at least 3 years continuously, the insurance cover ceases to
exist. You will be paid the surrender value in that case. The tax benefits cease to exist when an individual
wants to get out of a ULIP before three years i.e. any contribution made towards the policy during the
financial year is not eligible for a deduction under section 80C; On top of this deductions that have already
been taken in the previous years would be added back as the income of the individual in that particular
year of policy termination.

3.1.5 Types of ULIPs:

• Equity Funds:

Sometimes also called Growth Funds, in which, there would more investments in equities which are
shares/stocks traded in the stock market.

• Debt Funds

Also called Bond Funds, in which, the investments are primarily in Government and Government
guaranteed securities and such safe debts and other high investment grade corporate bonds.

• Money Market Funds

Also called Liquid Funds, in which, the investment may be more in short term money market instruments
such as treasury bills, commercial papers etc.
 • Balanced Funds

In this type of funds, the investments are in both equity as well as debts.

3.2 Growth of ULIP:

Product innovation has led to better investment management keeping intact the basic motive of risk
cover. There has been a paradigm shift in the way insurance plans are modeled. Traditionally they were
modeled to act as a savings option to meet one’s financial objectives; however, this traditional insurance
product has its own drawbacks, as the sum assured on maturity turns out to be much lesser in the real
term due to long-term inflationary conditions, which causes the real value of money to depreciate. Due to
this drawback, new and innovative products like ULIP or unit linked insurance plans were introduced to
lure investors.

ULIPs are insurance plans that combine the benefits of investment with insurance, and include an option
that allows the policyholder to allocate a part of their premium in various investment portfolios and to
derive the benefits depending on the performance of the asset class chosen by them. ULIPs were
launched when stock markets were booming and received huge response from investors. However, in the
backdrop of financial meltdown, capital markets turned volatile; moreover, the monetary policy stance to
increase liquidity bottomed out interest rates, which lowered interest on money markets instrument, and
thereby affected potential returns from the ULIP. In the near future, any further downfall in investor
sentiments may cause these plans to witness some moderation.

3.3 ULIPs V/S Traditional life insurance plans

 3.3.1 Potential for better returns:

Under IRDA guidelines, traditional plans have to invest at least 85% in debt instruments which results in
low returns. On the other hand, ULIPs invest in market linked instruments with varying debt and equity
proportions and if you wish you can even choose 100% equity option.

3.3.2. Greater transparency:

Unlike ULIPs, in a traditional life insurance policy you’re not aware of how your money is invested, where
it is invested and what is the value of your investment.

3.3.3. Flexibility in investment:

The top most advantage which ULIPs offer over traditional plans is the flexibility offered to you to
customize the product according to your needs:

a) Flexibility to invest the money the way you want: Unlike traditional plans, ULIPs allow
you full discretion to choose the fund option most appropriate to your risk appetite.

b) Flexibility to change the fund allocation: ULIPs also give you the option to change the
fund allocation at a later stage through fund switching facility.

c) Flexibility to invest more via top-Ups: Unlike traditional plans where you’ve to invest a
‘FIXED’ premium every year, ULIPs allow you flexibility to invest more than the regular
premium via top-ups which are additional investments over and above the regular
premium. To understand the significance and mystery of top-ups, please read “5 ULIP
Secrets”.

d) For the purpose of tax deduction under section 80C, there’s no difference between
regular premium and top-ups. In other words, top-ups are also allowed deduction under
section 80C.

e) Flexibility to skip premium: In case of traditional plans, you’ve to pay premium for the
entire duration of the plan. And if by chance you skip even a single remium, your policy
lapses. Whereas ULIPs allow you the flexibility to stop paying premium usually after three
policy years. Your life cover continues by deducting the mortality charges from the
existing investment corpus.
 3.3.4. Flexibility in insurance coverage:

a. Option to choose coverage: While in case of traditional insurance plans, the premium is
calculated based on sum assured, for ULIPs premium payment is the key component
based on which you can decide about the insurance coverage. Put simply, on the basis
of premium, ULIPs allow you to opt for any amount of sum assured within the specified
range of minimum and maximum life coverage.

b. Option to increase risk cover: Unlike traditional plans where you’ve to buy a new policy
each time you want to increase your risk cover, ULIPs allow you to increase your
insurance cover anytime.

3.3.5. Higher Liquidity (Better exit options):

The possibility to withdraw your money before maturity (through surrender or partial withdrawals) is higher
in case of ULIPs as compared to traditional plans and also the exit costs are lower. For details, please
read “How to surrender Life Insurance”.

ULIPs are different and of course better than traditional insurance products; however, while in traditional
plans your role is a passive one restricted to just making premium payments, ULIPs require your active
involvement. You’ve to make a lot of decisions such as deciding about sum assured and premium to be
paid, choosing between type I or type II Ulip, making a choice among various fund options available and
also deciding about fund switching from time to time based on your needs, risk appetite and market
outlook.

3.4 ULIP V/S Mutual Fund

Unit Links Insurance Plan (ULIP) and Mutual Fund (MF) are the two most preferred options for a part time
investor to invest into equity. But how do we decide which one should we go for. Though it is very easy to
decide, people tend to confuse themselves most of the time. This article talks about some points that you
need to consider while deciding which option we want to take.

Mutual Fund is pure investments. ULIP are combination of Insurance and Investment.

 ULIP and Mutual fund distinguished by the following two factors:

1) Does the person seeking insurance have any financial liabilities?

 2) If something happens to the person, Is there someone who can be in a financial crisis?

The main differences between ULIP and MF based on certain well known facts are as follows:

• Insurance

ULIPs provide you with insurance cover.

MFs don’t provide you with insurance cover.

• Entry Load

ULIPs generally come with a huge entry load. For different schemes, this can vary between 5 to 40% of
the first year’s premium.

MFs do not have any entry load.

• Maturity

ULIPs generally come with a maturity of 5 to 20 years. That The money will be locked-in till the maturity.

Tax saving MF (Popularly called as Equity Linked Saving Scheme or ELSS) come with a lock-in period of
3 years. Other MFs don’t have a lock-in period.

• Compulsion of Investing

ULIPs would generally make you pay at least first three premiums.

MFs don’t have any compulsion on future investments.

If you have invested in a MF this year, and in the next year you dont have enough income or money to do
investments you can decide not to make any investmets. Also if you notice that the MF that you invested
in is not giving good returns as compared to some other Funds scheme, you can decide to invest in some
other MF.

• Tax Saving

Both the ELSS and ULIP come under 80C and can save you tax. Returns in the both form of investments
are tax free.

• Market exposure

ULIPs give you both moderate and aggressive exposure to equity market

Debt and Liquid MF let invest with low risk, but don’t give you tax benefit.
ULIPs need not be aggressive in equity exposure. That is ULIPs need not keep more that 60% of their
funds in equity market. ULIPS also allow to change your equity market exposure. Thus it can help you
time the market and still give you tax savings.

If a MF has a less than 60% exposure to equilty market the returns from it are not tax free. Thus you don’t
get to take a conservative stand on returns.

• Flexibility of time of redemption

ULIP will get redeemed on maturing. Premature redemption is allowed with some penalty.

In MF premature redemption is not allowed. For a open ended scheme one can redeem the MF anytime
after maturity

3.5 Why ULIP?

The major objective of ULIPs is to build wealth, steadily in long-term along with an additional insurance
cover. Investors should have a clear view that, investing in ULIPs is not to get a high insurance cover out
of it.

The Fund Manager in Insurance firms has an edge over other market related products, in terms of holding
stocks for an extended period. Hence, the churning in portfolio stocks, measured by Portfolio Turnover
Ratio (PTR) is relatively less or negligible. Since the churning involves costs, it has a major impact on
fund's performance. Higher the Portfolio Turnover Ratio, higher is the cost involved.

Moreover, IRDA's cap on total charges including cap on Fund Management Charges (FMC) in case of
ULIPs have brought another transparency benefiting policyholders in terms of increased returns at their
ends.

A close look on the performance of other market related products vis-à-vis ULIPs gives a startling fact;
other market related products lags behind ULIPs return by a larger margin in the long run which confirms
that investments in ULIPs are ideal investment vehicle for wealth creation in long term. On an average,
the historical fund management charges (FMC) in other market related products (Mutual Funds come to
be around 2.1 per cent) while in ULIPs, the maximum FMC is capped at 1.35 per cent.

• A Case Study:

A periodic investment of Rs. 1 lakh in a diversified equity linked fund (ELSS) for a period of 15 years
grows to Rs. 28.54 lakh at an assumed growth rate of 10 per cent giving an net yield of 7.69 per cent
(considering an average FMC of 2.1 per cent) while the same amount invested in ULIP for the same
period may range from Rs.28.63 lakhs to Rs. 31.59 lakh at an assumed growth rate of 10 per cent giving
a net yield ranging from 7.97 per cent to 9.03 per cent. The final value goes down further if we consider
other tax-saving instruments such as PPF giving a return of 8 per cent annum. An investment of Rs.1 lakh
per annum in PPF for a period of 15 years grows to Rs.27.15 lakh.
So, clearly, ULIPs score over other products in terms of returns and additional benefit such as insurance
cover; however, it scores below PPF as investment in ULIPs involves high risks. The return in ULIPs goes
up further due to less FMC if the investment choice is debt fund and assumed rate of return is 10 per cent
(in debt funds, the FMC is generally around 0.75-1 per cent). The table shows the different returns as
given above. However, the high entry costs along with operational costs mar performance of ULIPs
having or when opted for shorter maturity period.

3.5.1 Benefits of ULIP:

• Provides flexibility in investments

ULIPs offer a complete selection of high, medium and low risk investment options under the same policy.
An investor can choose an appropriate policy according to his/her risk taking appetite, coupled with the
opportunity to switch between fund options without any additional expense for specified number of
switches. ULIPs provide the flexibility to choose the sum assured and investment ratio in the annual
targeted premium. It also offers the flexibility of one time increase in investment portfolio, through top-ups
to avail investment opportunity offered by external environment or own income flows.

• Transparency

The charge structure, value of investment and expected IRR based on 6% and 10% rate of returns, for
the complete tenure of the policy are shared with an investor before he/she buys a product. Similarly, the
annual account statement, quarterly investment portfolio and daily NAV reporting, ensures that you are
aware of the status of your investment portfolio at all times. Most companies publish latest NAVs on their
respective websites on a daily basis.

• Liquidity

To cope with unforeseen circumstances, ULIPs offer the benefit of partial withdrawal; wherein after 5
years you can withdraw funds from the Unit Linked account, retaining only the stipulated minimum
amount.

• Disciplined and regular savings

ULIPs help an investor inculcate a regular saving habit. Also, the average unit costs tend to be lower than
one time investment.

• Multiple benefits bundled in one product

ULIP is an outstanding solution for risk cover, long term investments with the benefit of various
investment opportunities, coupled with tax benefits.

• Spread of risk
ULIPS are ideal for those investors who wish to avail the benefit of market linked growth without actually
participating in the stock market, with the added benefit of risk-cover.

• Tax free Investments

Investments done under any ULIP scheme is exempted under Sec. 80(C).

3.6 How to Choose ULIP

The wide range of ULIPs available in the market might make it difficult for a consumer to choose the
correct ULIP. However, followings are some guidelines which can help an investor to choose the right
ULIP.

 FACTORS TO CONSIDER WHILE BUYING AN INSURANCE POLICY

3.6.1 Create Plan

Make a note of the current assets and liabilities, current and estimated cash flows based on the based of
present incomes and expenses and also factor in the projected rise in income and expenditure, dreams
and financial goals.

Such a plan will give a clear picture of the financial position and also estimate the run rate required from
the investments to fund dreams.

Once an investor have a fair idea on how much needs to be invested and what would be the required
investment return to achieve goals, one could determine an asset allocation based on your risk appetite.

This will help to decide to invest in one or more investment funds to replicate the desired asset allocation
and generate a reasonable investment return.

3.6.2 Choose Fund

An ULIP is basically a market linked instrument and the customer, while buying an ULIP, is given the
option of choosing the investment fund.

One should look at the past performance of various funds that are on offer before making your selection
since a fixed return is not guaranteed, and depends on the kind of fund you invest in. This information is
usually available on company websites.

Choosing a particular type of fund depends on the reason behind your investment and your risk appetite.
One may choose to invest in secure products like government securities and simple money market
instruments like T-Bills, etc. to ensure safety of your money. On the other hand, if your risk appetite is
high, you may choose to invest in equity markets, which has a potential to generate higher returns.

Assuming that you choose the growth or the equity plan, ask your agent for the NAV performance for the
last two years at least. Choose a few policies that have the highest performance track record vis-a-vis the
benchmark. Now choose the best performing policy in terms of returns.

3.6.3. Policy Charges

All ULIPs come with a set of charges, like the Premium Allocation Charge, Mortality Charge, Policy
Administration Charge and Fund Management Charge.

All these charges put together can eat up to 30-70% of your premiums in the first year, depending on the
company you choose. From the second year onwards the charges can be in the range of 5-10%.

The reasons why charges are different from company to company depend largely on cost of distribution
and the method of cost allocation. Some companies maybe paying their agents and brokers more than
the others and hence maybe passing on bigger costs to you.

It is critical to understand the amount and effect of each of these charges as they can substantially reduce
the amount available for investment. When buying a particular ULIP, ask your agent to give you 2
numbers. One, the value of the fund at the end of the term without the impact of charges; and two, the
value of the fund after deducting the charges. The wider the gap between the two, the more expensive is
the policy.

3.6.4 Benefit Illustrations

Agents are bound by guidelines to show sample illustrations for the amount paid for the policy based on
an optimistic estimate of 10% and a conservative estimate of 6%. These illustrations are shown to the
client by the agent to give him an idea about the returns on his policy. This is another important parameter
based on which one can compare the policies for the kind of returns they give.

3.6.5 Premium Payments

You might hear your agent say ‘Pay premium for just three years.’ It’s a tempting carrot, but you must
read between the lines. Once you stop paying the premium, the life cover lapses. So if anything untoward
happens to you, only the residual fund value will be paid to your nominee, not the sum assured.
Moreover, various charges continue to be deducted from the residual fund value until it ends and the
policy expires. This ‘advice’ might stem from the fact that sales commissions are higher in the first three
years.

3.6.6 Switching Options

One should also look at the switching options available with ULIPs. This option allows the policy holder to
switch between fund options, thereby adjusting for any perceived risk or a change in the requirement of
the investor. The number of free switches allowed in a year and additional cost over minimum allowed
switches should also be looked at before buying a ULIP.
 3.6.7 Long Term Financial Planning

Finally, one should keep in mind that an ULIP is an instrument which is not for short term. Its high cost
structure, especially in the initial few years of the policy, as compared to a mutual fund or traditional
insurance plan makes it expensive for short term. A ULIP is a better instrument for those who have future
plans like higher education of kids, retirement plan etc.

3.7 Charges involved in ULIP

3.7.1 Premium Allocation Charge

This is the initial percentage of funds that are separated for charges before units are allocated according
to the guidelines of the policy. This can be as high as 60 per cent in some ULIPS but in some others it
could be nil.

3.7.2 Mortality Charges

This involves the cost of insurance or life cover that is allocated for the plan. Age, health of the policy
holder, and the amount specified for coverage determines this charge. The basis of this charge depends
on the type of ULIP. This charge is initially deducted from the entire sum assured. At the final stage, it is
charged on the difference between the sum assured and the fund value. In some ULIPS the mortality
charge is levied on the sum assured for the whole term.

3.7.3 Fund Management Fees

This is charged towards managing the funds and deductible before arriving at the net asset value of the
funds. This could be in the range of 1- 1.5 per cent of the assets that are managed.

3.7.4 Administration Charges

This can be a flat charge deducted on a monthly basis throughout the plan or may increase over time at a
particular percentage.

3.7.5 Surrender Charges

A surrender charge is levied when one en-cash the fund units partially or in full at a premature date.
 3.7.6. Fund Switching Charge

The choice is given to switch the funds to different equity or debt options as applicable in the policy.
However, the number of times one can make this switch is restricted to a certain number exceeding which
the charge will be levied. This is generally quoted at Rs 100 to 150 per switch after the no. of free
switches is exhausted.

3.7.7. Service Tax

Service tax is deducted from the funds that are actually used for investment from the premium.

3.8 Drawbacks of ULIP

The major disadvantages of ULIP are as follows:

1) The charges are exorbitant and payable upfront in the first 3 years’ of the policy.

2) The 3-year lock-in may appear small compared to traditional insurance policies which run up to
15-20 years, but that’s not the right comparison. ULIPs should be compared to MFs, where the
open-ended schemes have no lock-in.

3) The flexibility is low. You can exit after 3 years, but you may be forced to stay with the ULIP
because of paying the hefty charges initially.

4) You are dependent on the performance of just one fund. Instead, you could buy 4-6 MFs with the
same money which you pay as premium and build a diversified portfolio and spread your risk.

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Conclusion
The authors have broadly explained the concept of ULIP. Also, the information on how to choose the fund
and the factors that require to be taken in to the consideration before investing. The comparison with the
Traditional Insurance plan & Mutual Funds will help reader to clear out any doubts regarding to the
different investment products. Lastly, the authors have discussed about the drawbacks of ULIP so that
one can be conceptually clear before jump to the conclusion.
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CHAPTER – 4 Best ULIPs – A case Study

The analysis derived from a case study will allow an investor a handle with which to hold the product.

Unlike the mutual fund product that has a very simple cost structure, ULIPs carry a greater number of
costs (administration and mortality), in addition to the others.

The problem begins because all these costs are levied in ways that do not lend themselves to
standardization. If one company calculates administration cost by a formula, another levies a flat rate. If
one company allows a range of the sum assured (SA), another allows only a multiple of the premium.
There was also the problem of a varying cost structure (as it should be due to the mortality cost part of the
insurance premium) with age.

4.1 Assumptions:

1. To cut through the confusion and yet be relevant to you, we took illustrations from all 14
life insurance companies for their ULIPs for ages 30 and 45. We assumed that a 30-year-
old was taking a 20-year policy for an SA of Rs 12.5 lakh, paying an annual premium of Rs
50,000.

2. And a 45-year-old was taking a 10-year policy for an SA of Rs 7.5 lakh with the same
premium. Premiums are paid throughout the term. We also assumed that only the growth,
or the fund with up to 100 per cent equity allocation, is chosen.

3. Life Insurance Corporation of India, Aviva Life Insurance, Max New York Life, SBI Life and
Birla Sun Life from our ranking since LIC are not considered in the analysis as they do not
have a policy currently alive that allows for a long premium-paying term to fit in with our
sample. Neither Max New York life, nor Birla Sun Life has fund options with 100 per cent
equity exposure that have been running for more than one year.

4. The unit-linked plans of Aviva Life are currently being phased out and the insurer is in the
process of developing new products. Major discrepancy found in SBI Life's illustrations.
Left with only nine companies, the analysis carried out at Type-I and Type-II policies. A Type-I policy just
gives the higher of the sum assured or the fund value, making the policy buyer extremely vulnerable to a
small corpus in case of an untimely death in the early part of the plan. A Type-II policy gives both the sum
assured and the fund value, and sure, it costs more too.

We then looked at the actual return and the internal rate of return to see which policy would give the best
post-cost return. And, since the privatized insurance industry in India is so young, we have been forced to
do a comparison of fund performance over a one-year period.

Ideally, a return history of three years should have been considered. But just five schemes would have
qualified that way. We bring you rankings on a one-year return now, but will be able to give you a better
handle with each passing year as the industry builds track record and experience.

Source: http://www.managementparadise.com/forums/stock-markets-tips-gyan/22859-indias-best-ulips.html
4.2 The Result & Analysis

The analysis of the data is done on the basis of above assumptions, and came to the following
conclusion:

1. The winner in the Type-I category is Tata AIG Life's InvestAssure II, which has scored primarily
because its one-year return, at 72 per cent, was way above the benchmark return of 53 per cent
of the BSE Sensex.

2. This despite the fact that it has a fund management charge of 1.75 per cent, more than double
the 0.8 per cent that HDFC [Get Quote] Standard Life charges. In fact, HDFC Standard Life has
done very well on the cost parameter.

3. The insurer is clearly the lowest cost one in our examples, but has lost out due to
underperformance over the time period. At returns of 42.7 per cent, HDFC Standard Life has
underperformed the benchmark by about 10 percentage points. In fact, Tata and Bharti have
outperformed the index by 10 percentage points or more.

4. Four companies were unable to beat the benchmark over a one-year period. In Type-II policies,
there is much less competition, with just six companies in the fray. Kotak Life's Platinum
Advantage is the winner and has a nice mix of lower costs and decent returns. It has consistently
outperformed the benchmark.

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Conclusion
A case study provided in this chapter is for to understand how one should compare with the plans
available in market. The case study is clearing giving insight on the factor one should consider by keeping
the future goals in mind.

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 CHAPTER – 5 RECENT DEVELOPMENTS

5.1 Background

The Insurance Regulatory Development Authority (‘IRDA’), which is the regulator of the Indian insurance
industry, currently licenses and regulates all insurance companies and insurance intermediaries that
operate in India. The IRDA has oversight over all financial products that are offered by insurance
companies in India. Unit Linked Insurance Plans (‘ULIPs’) are one such product that comes within the
regulatory domain of IRDA. Simply put, a ULIP is a type of insurance-cum-investment product that
insurance companies offer to investors in India.

The Securities and Exchange Board of India (‘SEBI’), which is the Indian securities market regulator, is
entrusted with the responsibility of (i) protecting the interests of investors in India in securities, and (ii)
promoting the development of and regulating the Indian securities markets. SEBI currently licences and
regulates all intermediaries that are associated with the Indian securities markets, such as stockbrokers,
merchant bankers, underwriters, depositories, participants, custodians, portfolio managers, FIIs, mutual
funds, venture capital funds, collective investment schemes etc. SEBI does not have clear supervisory
authority over insurance companies that operate in India as insurance companies come within the
regulatory purview of IRDA.

Over the last couple of years, insurance companies in India have been in direct competition with mutual
funds in India to solicit monies from investors that seek to take exposures to the Indian securities markets.
The insurance companies have sought to differentiate their investment-linked products from those of
mutual funds, by marketing them as hybrid products that combine investment-linked returns with the
added benefit of insurance protection to the policyholder. In this regard, ULIPs are one type of hybrid
investment-linked insurance product that has gained significant popularity among Indian investors. Having
said that, there have been several instances where investment advisers have taken advantage of
unsophisticated investors in India by wrongly selling them ULIPs, instead of mutual fund units, on the
basis that ULIPs are akin to mutual fund units; they would provide the investors with the same economic
benefits as those conferred by mutual fund units, along with an added bonus of an insurance cover. In
some instances, the investment advisers have not been transparent with prospective investors as regards
(i) the costs that are associated with purchasing ULIPs, (ii) how the investors’ contributions would be
appropriated by the insurance company between the premium it would be charging for the insurance
cover provided and the amount that would be allocated towards the investment corpus, (iii) the penalty
clauses that would apply if periodic contributions were cancelled, (iv) the sizeable commissions they
would earn from insurance companies for selling ULIPs.

Currently, SEBI prevents mutual funds form paying attractive commissions to distributors of their financial
products. SEBI also imposes tight caps on the investment management fees that can be charged by the
asset management company of a mutual fund scheme. On the other hand, IRDA permits insurance
companies to pay attractive commissions to distributors of their financial products and the cap on fees
that they can charge their policyholders are much higher. Hence, there has been an increasing trend
among investment advisors in India to try to sell investment-linked insurance products to investors, over
competing mutual fund products, with the ulterior motive of earning sizeable commissions from the
insurance companies. Sometimes, investment recommendations have been made not necessarily
keeping the best interests of investors in mind.

This has annoyed a large number of retail investors in India as some of them have fallen prey to
unscrupulous investment advisors. On this count, numerous investors have filed complaints with the
regulatory authorities in India: SEBI and IRDA.

Representations have made in this regard to the Indian regulators

Over the past few years, both SEBI and the IRDA have been trying to resolve these issues; however, they
have reached a stalemate. IRDA is fundamentally not in favour of reducing or phasing out insurance
agents’ commissions as it believes that such a move could undermine the attempts to increase insurance
penetration in the country.
5.2 Recent developments

In December 2009 and January 2010, SEBI issued notices to fourteen insurance companies in India

i. Seeking an explanation on how they were issuing ULIPs (which were prima facie akin to
mutual fund schemes) to investors, without obtaining the requisite registrations from
SEBI

ii. Showing cause why SEBI should not take appropriate action against them under the SEBI
Act.

The insurance companies provided their written submissions to SEBI, which were on similar lines.
Separately, the IRDA intimated SEBI that the ULIPs are insurance products marketed by companies that
are licensed and regulated by IRDA; each of the

ULIPs and the conditions thereto are specially cleared by IRDA having regard to the Insurance Act and
the related Insurance Regulations. IRDA also advised SEBI that

SEBI’s action was wholly misconceived and without jurisdiction.

Despite this, SEBI issued an order directing the fourteen insurance companies to cease issuing any
literature soliciting money from investors, or raising money from investors by way of new and / or
additional subscriptions for any products (including ULIPs) having an investment component in the nature
of mutual funds, till they obtained the requisite registration from SEBI. SEBI also indicated that its order is
without prejudice to any action that SEBI might take against the insurance companies in respect of the
literature that they have issued for investment-linked products (including ULIPs) launched so far that are
in the nature of mutual fund schemes. SEBI has also indicated that its order will not affect the soliciting of
money / subscription from the public with respect to any pure contracts of insurance or the insurance
component of a combination product. We have provided below a summary of the key contentions that
were put forth by the insurance companies in response to the SEBI notice and SEBI’s rebuttal to each of
these contentions. SEBI has discussed each of these issues in detail in its order.

In response, the IRDA immediately issued an order , stating that the SEBI order would cause a stoppage
of all renewals of insurance policies already invested by the insuring public and could result in the forced
premature / surrender of insurance policies, causing substantial loss to policyholders and insurers. The
effective stoppage of the sale of the said products would cause complete drying up of the revenue flows
of insurance companies, which could disrupt the payment of benefits on maturity, on death and on other
admissible claims, putting policyholders and the public to irreparable financial loss. The financial position
of the insurers would be seriously jeopardized, thus destabilizing the market and upsetting financial
stability. The IRDA Act is specifically enacted to provide for an authority to protect the interests of holders
of insurance policies, to regulate, promote and ensure the orderly growth of the insurance industry and for
matters connected therewith or incidental thereto. Therefore, in exercise of the powers vested in the IRDA
under the Insurance Act, the IRDA directed the fourteen insurance companies mentioned in SEBI’s order
to continue carrying out their insurance business as usual, including offering, marketing and servicing
ULIPs in accordance with the Insurance Act, Rules, Regulations and

Guidelines issued there under, notwithstanding the SEBI order.

The Indian Government finally intervened to resolve the dispute between the two Indian regulators. Press
reports seem to suggest that as part of the resolution, theregulators agreed to jointly seek a binding legal
mandate from an appropriate court in India to settle the matter. In the interim, it was also agreed to
maintain a ‘status quo’ on the issue, to provide temporary reprieve to the insurance companies.

SEBI has now issued a press release stating that it has decided to keep in abeyance, until further notice,
the enforcement of its directions issued to the fourteen insurance companies with respect to the ULIP
schemes / products existing on the date of its order (ie April 9, 2010). In the press release, SEBI has also
indicated that with respect to any new ULIP schemes / products launched after April 9, 2010, it will
enforce its directions mentioned in its order. It is unclear from SEBI’s press release whether the
temporary truce that was agreed to between SEBI and IRDA (on the mediation efforts made by the Indian
Government), was intended to cover only the past ULIP schemes / products offered by the insurance
companies or even their further ULIP schemes / products. Given this ambiguity, it would be good if the
regulators were to clearly articulate the scope of the ‘status quo’ that they have agreed to.

We have tabulated below the key contentions that were put forth by the insurance companies in response
to the SEBI notice and SEBI’s rebuttal to each of these contentions.

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Conclusion
The purpose of addition of this chapter is to keep reader updated with the recent development about the
Insurance market.

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