Investment-Linked insurance is often suggested to us by insurance agents as one of the best investment tool available out there – it combines investment and insurance into one product. But, is it really as good as they claim it to be?
What is an Investment-Linked Insurance Policy (ILP)?
It is an insurance product that contains an investment element and insurance (protection) element. Although there is a “protection” element in the policy, there are also ILPs that does not contain the “protection” element, in which case, all premiums paid goes into investing. There are also policies that allow flexibility in altering the proportion of money that goes into each amount.
There are 2 types of ILP, namely the Single premium ILPs and Regular premium ILPs.
|Single premium ILPs||Regular premium ILPs|
|Payment||One lump sum||Yearly or monthly payment|
|Insurance Coverage||Lower coverage||Higher coverage|
|Investment||Bigger portion of the money goes into investment||Smaller portion of the money goes into investment|
How does it work?
For every dollar of insurance premium you pay, a portion of it goes into the protection element and the other portion of it goes into the investment element of it. The protection part protects you against risks that you insured yourself against, just like a normal life or health insurance. The investment money is then used to invest in stocks, bonds, REITs, and other assets to generate a return. The creation of ILP is used to attract people who wish to obtain both protection and investment returns at the same time.
Pros of ILP
- Higher Potential Payouts: If you bought an ILP that contains a life insurance of coverage $100,000. In the event that you pass away, the insurance company will pay you either the $100,000 OR the value of your investments portion, whichever is higher, OR a combination of both the sum assured PLUS the value of your investments.
- Contain both the protection feature of an insurance and an investment feature: It has the protection coverage covered by the insurance portion and you can also enjoy returns on your money based on the investment portion of the policy. This makes it even more value-for-dollar.
- Access to funds that were once restricted: Through the purchase of an ILP, you are able to invest in certain funds or investments that were once restricted to the average investors. Examples of such include firm-specific investment funds which are launched and managed by the insurance firms. These funds are typically not accessible to public investors unless they are customers of the insurance firms or accredited investors.
- The flexibility of ILP: Usually for ILPs, you are able to vary the portion of premiums contributed to the investment and for insurance protection. This allows flexibility especially when life situations changes as age increases. For example, when you are younger, you can afford to take more risks for returns and pay less attention to protection. Hence, you will increase the investment portion as compared to the insurance portion.
- Switching between sub-funds: ILPs also usually allows switching of funds that are directly managed by the insurance firm or for selected funds. There may be charges for making these switches or there are a limited number of free switches. We advise that you check with your agent or the firm directly on this. This option allows even more flexibility for individual investors to alter their risk and return profiles based on the investment fund choice. This means that an investor can change from an aggressive fund to a more passive fund that generates more stable returns.
Cons of ILP
- High Fees: ILP tend to have the highest sales charge among all the other insurance policies. Hypothetically, this means that for each dollar of premium you pay for an ILP, your insurance agents could take up to 10% of it, compared to maybe 5% for each dollar of premium you pay for a normal life insurance. This effectively means that 5% of your premiums are not being used to offer you more protection. Although the fees for ILP are high, they tend to fall over the years as you hold on to your policy.
- Higher Premiums: A basic life insurance scheme with sum assured $100,000 cost maybe $30 per month. Because you are also paying for the investment element, you may need to fork out another $20 per month. In addition, because there is a higher fee involved, additional $10 maybe be added in to ensure your policy has sufficient funds for coverage. This easily adds up to $60 per month, double the premiums of a basic life insurance policy.
- Investment returns of ILP depend on the performance of the selected fund: This refers to the investment portion of the ILP, not the protection portion. Compared to a normal insurance policy, an ILP does not provide bonuses. Different from most insurance policies which guarantee cash values, the returns of the ILP will depend mainly on the performance of the selected investment fund and it is often not guaranteed.
- The long-term view for both features: ILPs should only be purchased with a long-term view – at least 10 years. Both the insurance and investment features are for long-term purposes. Similar to a normal insurance policy, the protection coverage is for long term purposes. For the investment feature, it is necessary to have a long investment horizon to take advantage of the long uptrend returns. Market fluctuations and initial costs could potentially limit any short-term returns.
AXA currently offers an ILP that covers medium to long term horizon – the AXA Optimus. Something unique about this ILP is that it can be used purely as an investment tool to unlock access to restricted funds. This means that 100% of your premium contributions can be channeled into the investment component. You can also freely switch between funds managed by AXA, switching to better performing funds when available.
- Involuntary Unemployment Benefit
While many of us worry that such investment/savings plan would often lapse if there are no regular stream of premium paid in the event of a job retrenchment. AXA Optimus allows the holder to receive up to SGD 9,000 per Policy under their Involuntary Unemployment Benefit. This would certainly help to tide over tight cash flow situations and assist on the premium payments for a period of time.
- Regular Withdrawal Option
In addition to all the benefits listed, AXA Optimus also allows regular withdrawal of the investment returns that you receive. Nothing beats having cold hard cash in your pockets. This option is subjected to conditions and can only be allowed after the Premium Payment Term.
- Low Break-Even Yield
At the lowest plan, an average annual yield of 2% will be more than sufficient to cover the fees and charges on the ILP (not the premiums paid). 2% is an achievable investment goal, any returns above 2% is a return on capital (or premiums paid).
- Start Up Bonus
On the first year, you will receive bonus fund units of up to 180% of the premiums paid. Meaning for every $1 you put into the ILP, you get $1.80 worth of fund units (this is an over-simplification because there are costs involved, but the general idea is there). This bonus 80% will definitely jump start your investment journey and provide you with a higher return on investments.