Mutual funds vs ULIP investments


These investments offer investors an exposure to a market linked portfolio giving an opportunity to earn positive returns. Here’s a quick look at both the options

Mutual funds (MFs) and unit-linked insurance plans (ULIPs) are two popular investment options available for investors. Clearly different yet these products are very similar in their functioning and structure. These instruments offer investors an exposure to a market linked portfolio giving an opportunity to earn positive returns. So what sets them apart and what is similar? Here’s a quick look at both the options.

What is Similar

Exposure to the capital market

MFs and ULIPs expose investors indirectly to the capital market. If you do not have the expertise to invest in the market, with the various funds offered, you get an opportunity to invest across different asset classes of debt, equity or a balance of the two.

Option of systematic investing

Investments in ULIPs and MFs could be done with a onetime lump sum payment or systematically at periodic intervals. A systematic investment takes advantage of market volatilities yielding positive returns.

Risks involved

The returns generated from a MF and ULIP greatly depend on the performance of the underlying scheme that has been invested in. So whether it is a debt funds for the risk averse or equity for those who can bear some risk, both the options are definitely fraught with risk.

Net asset value

In both the investments, units are allocated to you on the basis of a net asset value (NAV). The NAV of a MF or ULIP is the market value of each unit of the scheme. Calculated on a daily basis, an NAV is the total of the assets, securities, cash and any accrued earnings (after deducting liabilities) and then dividing the remainder by the number of units outstanding. It is commonly used as a measure to understand the profits that have been generated from the investment.

WHAT SETS THEM APART

Nature of products

Mutual funds are a sole investment product. The primary aim of a MF is wealth creation. Equity, debt or hybrid, it offers different investment options to suit various risk profiles. On the other hand, ULIP is a product bundled with life cover, wealth creation as well as tax saving. Mutual funds too have a tax saving option, but that is applicable only to equity linked savings schemes (ELSSs).

Degree of risk in investment

ULIPs are primarily insurance products. Fund managers of ULIP therefore are careful and use less aggressive investment strategies. This makes ULIP less risky than mutual funds. Mutual funds being pure investments products have their portfolios exposed to much more risks to be able to generate superior returns.

Liquidity

ULIPs typically have a lock-in period of five years during which time units cannot be sold. Mutual funds generally do not have a lock-in period (except in the case of closed-ended funds which have a lock-in period of normally three years) and are more liquid than ULIP, as they can also be widely traded in the market.

Different regulatory

Mutual funds and ULIPs are regulated and governed by two different regulatory bodies. Mutual funds fall under the purview of SEBI (Securities and Exchange Board of India), while ULIPs are governed by the IRDA (Insurance Regulatory and Development Authority).

Charges

Expenses incurred in a MF are much lower than expenses in ULIPs. There are three types of mutual fund charges—Entry load, exit load and recurring charges. Entry and exit load are onetime expenses ranging from 1% to 3%. Recurring charges are towards, fund management, cost of sales & marketing and administration, and is around 2.5%. In the case of ULIPs, the upfront charges are much higher. Most of the charges are collected in the initial three to five years.

WHICH ONE TO INVEST IN

Before deciding on which one to invest in, it is vital to ask yourself the following questions.

What is the purpose of your investment?

Are you looking at only wealth creation for financial goals, for retirement plans or do you also seek protection?

 What is your investment horizon?

If you are a short term investor…

ULIPs may not be an ideal option for the short term investor. The commissions in the first year for a ULIP are around 18%, 7% in the second year and 4% thereafter. Exiting the policy in the short term could thus yield very low returns as a large chunk of your investment would go towards meeting these charges. If you are a short term investor, looking at wealth creation, a mutual fund would score over a ULIP.

If you desire an insurance cover along with wealth creation, you could additionally opt for a term plan. Term plans offer a higher sum assured at much lower costs.

If you are a long term investor…

ULIPs are best suited for individuals with a long term financial plan of wealth creation and insurance. Whether it is for retirement, children’s education or for other financial goals, a ULIP continued till maturity works as an advantage. It gives you the dual benefit of savings and protection, all in a single plan.

Article contributed by MyInsuranceClub.com

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