A good tax saving option depends on a lot of factors like maturity period, rate of return, and lock-in period. Most debt instruments, including endowment policies, typically come with maturity periods of 10, 15, 20 years. And while government-backed instruments like National Savings Certificate (NSC), Public Provident Fund (PPF), and Sukanya Samriddhi Yojana offer a fixed rate of return, they, too, come with a lock-in period of 5, 15 and 21 years, respectively.
Interest rate on small saving schemes are decided on a quarterly basis. These figures are effective Oct-Dec 2017.
In terms of return, equity-oriented schemes like equity-linked savings schemes (ELSS) and unit-linked insurance plans (ULIPs) score over other instruments. ELSSs are tax-saving mutual funds, while ULIPs are insurance plans that invest in the stock market through a mix of equity, balanced, and growth schemes.
Let’s look at five benefits of ULIPs that can help you save for your investment goals.
1. Lock-in period
ULIPs come with a lock-in of five years which can help you inculcate a habit of disciplined investing. Since ULIP is a long-term insurance contract, investing in a single ULIP helps. Unlike ELSS, the policy is bought once while the tax benefit can be availed every year till the end of premium paying term.
It’s important to remember that though the ELSS comes with the shortest lock-in of three years, the money invested in the first year is only available in the fourth year. Thus, every investment, either monthly in the form of systematic investment plans (SIP) or annual as a lump sum amount, can be withdrawn only after the completion of three full years. In case of ULIPs, the lock-in is calculated from the date the policy is issued. The premium can be paid monthly or annually as a lump sum.
2. Potentially better return among peers
ULIPs have the potential to garner better returns than any other insurance product because of its equity advantage. ULIPs invest the premium paid by you in various asset classesthrough different funds. Tax-saving funds have historically given double digit returns, but you need to look for a new fund every year, in case of a one-time investment. For ULIPs, the renewals take care of tax savings.
The maturity amount depends on the performance of the equity market during the tenure. On the other hand, endowment plans are also designed to pay lump sum amount after a specific term. Despite the capital protection feature offered by such policies, the returns generated do not beat inflation.
In terms of tax efficiency, the maturity amount is tax-free in the hands of the policy holder. Thus, making ULIPs a better choice among several of its peers.
Tax-saving fixed deposits (FDs), too, come with a lock-in period of five years. But the returns are added to your income and are taxable as per your income bracket.
ULIPs have an option of switching funds during the term. You can choose among growth, equity, balanced, income funds as per your risk appetite or change in goal. Generally, four switches per year are allowed free of cost.
Unlike shares, you do not have to keep a track of companies that the fund invests in. You just have to choose the policy, change the fund allocation anytime during the term, and run it till maturity to reap long-term benefits.
4. Dual Advantage
Although term insurance plans fulfil the life cover and tax-saving parts, they do not offer any return. ULIPs, besides the tax advantage of up to Rs 1.5 lakh under Section 80C of the Income-tax Act, 1961, can be instrumental for long-term goals. It offers minimum sum assured equal to 10 times the annual premium for investors below the age of 45.
5. First time investors
The FD-oriented investors are slowing moving towards mutual funds and insurance policies. Mutual fund folios stood at a record high of 6.5 crore at the end of November, according to latest data from the Securities and Exchange Board of India. With a change in investing pattern, choosing a market-linked instrument like ULIP makes sense for new investors.
If not equal, the returns are at least comparable with mutual funds in the long term. A first time investor, willing to take minimal risk of getting into stock market, can choose from a myriad of market-participating plans. All he needs to know is his investment horizon and the goal attached to it.
New Insurance Regulatory and Development Authority of India guidelines have made ULIPs much more investor-friendly than they were at the time they were first introduced. Costs like premium allocation charges, administration charges, fund management charges, and surrender charges have come down.
ULIPs can be great wealth creating tools for the long term because of the diversity of funds offered. And they are ideal for those who want to start young to ride on the equity advantage.
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