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Unit linked life insurance

Unit-linked life insurance plan is a derivative of two often used and popular instruments: insurance and investment. First of all, an individual who chooses this plan gets normal term life insurance and can be sure that in case of his death or terminal illness, he or his dependents will get a lump sum of cash. However, differently from other insurance options, policyholders of unit-linked insurance do not know what amount of money they will receive in case of a successful claim.

This happens because a unit linked insurance plan (ULIP) can be viewed as some form of investment vehicle. Fees are deducted from the premiums paid to the insurance company and the remaining amount of money is invested in financial markets. Equities, bonds and mutual funds are among the most popular instruments that are used by the insurance companies for ULIPs. Thus, it is possible to get the return on premiums paid. In case of claim or if the term of ULIP has ended the person can get all of his premiums (after allocations) back plus a return on the invested part of premiums.

Premium break-up

Usually the premiums paid in order to have a unit-linked insurance plan are divided into four parts: premium allocation charge, administration charge, mortality charge, fund management charge and invested amount.

Various allocations of premiums

Premium allocation charge is done before allocating premiums into other units. This part of deduction is the highest and in the first years can be even up to 70% - 100%. Fortunately, in following years it decreases sharply and after few years usually it is no more than a few percents of the paid premiums. This tendency for premiums allocation charge to decline arises because of the declining risk incurred by the insurance company.

Administration, mortality and fund management charges are usually very small and do not exceed more than a couple percents of the premiums paid. Mortality charge is made because of the risk that the insurance company may face if the insured person dies. In this case, the money goes to build up premiums that will be used a compensation to the beneficiaries. Fund management charge is made because of the costs that are incurred while managing all the premiums paid to the ULIP.

Invested amount

After all allocations are made the remaining amount of money is used for investing. Depending on investment options the company offers, it might be possible to choose a particular investment vehicle that will be used to invest the premiums. However, if the person does not have much experience with financial markets, it is wiser to use advice from financial markets experts, because it is possible not only to gain but also to lose the money if the investment is not based on thorough analysis and profound knowledge. 

Advantages of unit linked insurance plan

The main advantages of ULIPs are that either way the person is guaranteed that the insurance company will have to pay some amount of money for him. Moreover, it is possible to earn some kind of return and to have bigger coverage compared to other insurance options. Furthermore, a person can terminate the contract and still get the part of amount invested back.
Usually, if the person dies or is diagnosed with terminal illnesses he will get either the coverage that is indicated in the insurance contract or the part of the premiums invested plus a return on them. The individual gets that amount of money that is higher.

Last but not least, a lot of companies allow an individual to choose from a variety of investment classes. As a result, a risky investor can choose those asset classes that allow him to reach a considerable return. On the contrary, a risk averse investor can stick to a conservative investment strategy and keep a peace of mind knowing that his money is safe.

Disadvantages of unit linked insurance plan

However, ULIPs also have a lot of disadvantages. First of all, usually the premiums for this type of insurance are much higher compared to the ones for other life insurance alternatives. Thus, for some people this kind of insurance vehicle may be too expensive.

Moreover, this kind of insurance is not a good option for short-term protection or investing objectives. Because in the first years the premium allocation charge is very high only smaller amount of premiums is allocated for investing. This way, if the ULIP contract is terminated early, the person is able to get back only a small portion of invested premiums.
Furthermore, it is dangerous to use this insurance instrument for a short time purposes because of financial market fluctuations. In few years time it is possible that investments will have negative return. That way it will be possible to get back even a smaller part of premiums than the money that was invested.