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Sunday, Oct 27, 2002

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Market-linked insurance plans — Have your cake and eat it too

Sanjiv Shankaran

A friend is in a dilemma. He is to get married shortly, and is grappling with the problem of where to direct his future savings. Should he stick to risky investments as he has a long career ahead, or should he create a financial cushion to help his family in the event of an unfortunate development?

The dilemma is one of finding a balance as his priorities begin to change.

Traditional avenues in the stock market, fixed deposits and public provident fund (PPF) are fine. Each comes with a unique dimension of associated risk and the attendant return. But none of them guarantees an immediate payment in case my friend — who can no longer afford to think only about himself — fails to survive the life of the investment (or till savings multiply in the stock market).

One suggestion he frequently receives is to buy a term assurance policy to supplement his regular investments.

The term assurance policy should provide the financial cushion that my friend is looking for.

But term assurance policies come with a condition that troubles my friend — they take effect only in the event of a development. If things are fine, the term policy would end at a pre-determined period, and the money paid out as premium would remain with the insurance company.

Faced with a bewildering number of options, but none that seemed a good-fit, he began to dig deeper and finally stumbled upon one investment that appeared to meet his key requirements. It is the market-linked insurance plan offered by life insurance companies.

The plan seeks to fuse a basic insurance policy (a pre-determined sum paid out in the event the policyholder fails to survive the policy period) with a portion of the premium money being directed to an investment portfolio that the policyholder can choose.

Simply put, we have an amalgam of an insurance policy with a mutual fund (insurance companies bristle at the mention of mutual fund in this context!).

Choose a policy, and the insurance company gives one the choice to divert a part of the premium into a limited number of investment options.

Each investment option has an attendant risk and reward equation.

Thus, a relatively young person, such as my friend, may choose to divert a part of the premium into a risky portfolio packed with equity shares of companies.

An older person may prefer to divert a part of the premium to a safe avenue such as a portfolio of government securities.

Having described the basic policy, the next problem has to be dealt with. Life insurance companies graft varying features to the basic concept of linking insurance policies to choice in investment portfolios. The features provide the required variation to meet different needs.

The coverage of market-linked plans spans two weeks. This week will cover the key features of ICICI Prudential's market-linked plan. Subsequently, we will cover a plan offered by LIC, Bima Plus, and provide an overview of the portfolio flexibility offered by companies such as Birla Sunlife and Aviva on traditional insurance products like endowment assurance.

Finally, an attempt will be made to match the different plans with appropriate requirements, and evaluate them in the context of mutual funds.

ICICI Prudential's Life Time policy

The key features of this policy are:

  • There are three critical elements: Premium paid every year, sum assured (extent of insurance) and portion of premium that will go into an investment portfolio.

  • A policyholder can choose the extent of premium that will go towards providing life insurance and the balance will go towards investment portfolio.

  • The implication is that a policyholder can choose the extent of premium contribution that will go towards earning more money, and the amount towards paying for insurance cover.

  • A policyholder can choose between three kinds of investment portfolios, each associated with a different level of risk. For example, `Maximiser plan' is equity-oriented, `Protector plan' is geared towards highly safe debt instrument and `Balancer plan' seeks to arrive at a judicious mix of debt and equity.

  • The value of each of the three investment portfolios is disclosed bi-weekly. The implication is that, in the manner of a mutual fund, a new policyholder can enter only at the current net asset value of a portfolio.

  • The plans come with a cost structure such as administrative charges that are disclosed at the outset.

  • A policyholder can switch between different portfolios at any time — one free switch is allowed a year. One can also increase the proportion of premium that goes towards investment and correspondingly reduce the premium towards pure insurance. The reverse is also possible.

  • After a three-year lock-in, policyholders can withdraw the accumulated money in their investment portfolio, fully or partially.

  • The policy does not have a fixed maturity period.

    The essence of the policy is that it combines pure insurance and investment in one instrument. Additionally, one can retain the flexibility to choose the kind of investment and even vary the level of commitment to insurance and investment during the life of the policy.

    (To be concluded.)

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