Mutual funds V/S ULIP, which one is better?

The decision to invest in a mutual fund or an insurance product is totally based on the investor’s needs. It is critical to take measured risks if you want to get the most out of your money.

Indians are regarded to be risk-averse compared to their international counterparts. Many Indians do not participate in extreme sports or try their luck in the stock market. However, the truth remains that, in search of bigger profits, people all over the world are increasingly turning to riskier solutions.

Even today, the average investor mistakes mutual funds with another financial instrument known as ULIPs or Unit-Linked Insurance Plans.

Many people buy ULIPs (Unit Linked Insurance Plans) in the hopes of getting the best of both worlds: insurance and excellent returns. Mutual funds, on the other hand, perform far better in the long run and have proven their capacity to deliver substantial returns. ULIPs are insurance policies that serve the twin function of providing insurance and earning you a return on your investment. Certain ULIP products on the market include riders or built-in advantages that provide additional protection.

What is the definition of a mutual fund?

A mutual fund is a type of investment vehicle in which an asset management company (AMC) manages the money of multiple investors. The proceeds are then invested in a variety of products, including bonds, stocks, and money market instruments, among others. Your mutual fund scheme’s performance is inversely related to the performance of these underlying securities.

Mutual funds are a type of pooled investment that is managed by fund managers, who are experts in their field. It’s comparable to boarding a bus when the driver transports all of the passengers to a specific location. The driver represents the fund management, the bus represents the mutual fund scheme, and the passengers represent the investors. Fund managers are mutual fund professionals with an extensive understanding of the complexities and volatilities of the financial markets and make appropriate asset allocation decisions.

What is a unit-linked insurance plan, and how does it work?

A unit-linked insurance plan, or ULIP, combines investing and insurance into one package. ULIPs are insurance policies that allow an investor to build wealth while also providing them with the security of a life insurance policy.

A portion of the money in ULIPs is used to provide a life insurance policy to the investor. The remaining funds are pooled and invested in debt or equity instruments, or a combination of both, in order to assist develop long-term wealth.

ULIPs and mutual funds are not the same things.
To get a better understanding of the differences between ULIPs and mutual funds, you must first comprehend what they are. The following are some key distinctions between mutual funds and ULIPs.

1) Goal of the investment

A mutual fund is a pure investment instrument with the only purpose of generating wealth and the ability to provide decent long-term returns. ULIPs, on the other hand, is primarily insurance product that also serves as market-linked investment.

2) Investment return

ULIP returns can be volatile because they invest in stock, debt, or a combination of the two. Mutual fund returns vary based on the type of scheme chosen and can range from 0% to 100%. There is no guarantee.

3) There is a lock-in period.

Because ULIPs are insurance products, insurers typically set a five-year lock-in term for these investments. Before the lock-in period expires, investors will be unable to redeem their investments. Most mutual funds, particularly open-ended mutual funds, do not have a lock-in time, with the exception of ELSS funds, which have a three-year lock-in period.

4) Discretion

ULIPs have become more open as a result of recent IRDAI regulatory changes; they now give upfront information on money allocation. Fund houses are required to provide a full report on mutual fund investments in the event of mutual funds. SEBI, the financial markets regulator, has encouraged fund companies to publish extensive information on asset allocation, portfolio holdings, active fund manager(s), fees charged, and so on, in relation to different types of investments.

5) Taxation on mutual funds:

Depending on the holding period, equity funds are subject to LTCG (long-term capital gains) and STCG (short-term capital gains) taxes of 10% and 15% (with appropriate surcharge and cess) correspondingly. After indexation, the LTCG tax on debt mutual funds is 20% (with appropriate surcharge and cess), whereas STCG tax is based on the investor’s income tax bracket. Under Section 80C of the Income Tax Act, 1961, ELSS funds are eligible for a tax deduction of up to Rs 1.5 lac.

Tax on ULIPs: Under Section 10(10D) of the Income Tax Act of 1961, ULIP returns are tax-free.

6) Charges

When you invest in mutual funds, you will be charged a professional management fee as well as an operating cost, which is referred to as the expense ratio. Some mutual funds have an exit load, which is a fee for exiting the plan. Premium allocation charge, fund management charge, administration charge, mortality charge, and other charges are also levied on ULIPs.

7) Risk protection

Nominees are compensated for the sum covered under ULIPs in the event of the policyholder’s untimely death. The investments in mutual funds, on the other hand, are transferred to the nominee.

Which is better? A mutual fund or ULIP?

The decision to invest in mutual funds or ULIPs solely lies with the investor. Before investing in any instrument, an investor should analyze their financial needs. The right investment option is one that aligns with the investor’s financial goals, risk profile, and investment duration. For instance, if investments need to be liquid, one can consider investing in mutual funds as ULIPs have a minimum lock-in period of 5 years. Of course, not all mutual funds are liquid, and tax-saving mutual funds (ELSS funds) have a lock-in period of 3 years. On the other hand, if someone is looking for insurance as well as wealth creation, one can consider investing in ULIPs.

In a nutshell, the primary aim of ULIPs is to ensure the investor’s life, while the primary goal of mutual funds is wealth creation. Choose wisely, happy investing!