What is an Investment-Linked Policy?
An Investment-Linked Policy (ILP) is a financial product that combines life insurance coverage with investment opportunities. When an individual purchases an ILP, a portion of the premiums goes towards covering life insurance and related fees, while the remainder is allocated to investment funds.
These investment funds typically encompass a range of assets like equities, bonds, or other securities. Policyholders have the flexibility to select and switch between different funds, allowing them to tailor their investment strategy.
Here are 4 reasons why we are not advocates of ILPs:
Complexity:
ILPs can be intricate and challenging to understand for the average investor. The insurance component, investment component, and various charges can create a convoluted financial product. Investors may find it challenging to determine the true cost and benefits of ILPs. We prefer investments that are simpler for the average person to understand and transparent enough for them to know the costs.
High Costs:
ILPs are notorious for their high costs, including sales charges, fund management fees, and insurance charges. These costs can erode your investment returns over time, reducing the growth of your wealth. Over the long term, someone who invests directly into the underlying investment fund will outperform someone who invests through an ILP.
Lack of Flexibility:
ILPs often come with a lock-in period during which investors cannot withdraw or surrender their policies without incurring substantial penalties. Exiting an ILP prematurely may result in a loss of capital and any potential gains. This lack of flexibility can be a drawback, particularly for those who need to access their funds for unexpected expenses or other investment opportunities.
Insurance and Investment Separation:
We generally recommend keeping insurance and investments separate. By doing so, individuals can tailor each aspect to their specific needs and goals. Separating insurance and investments allows for greater flexibility in choosing the most efficient and suitable options for coverage and wealth accumulation. ILPs bundle these two elements together, potentially resulting in higher costs and less customisation.
How do ILP upfront bonus units work?
Many of us have seen investment ads on social media shouting about 80% bonus units once you start investing. It is tempting to many as that would mean you get 80% gross returns right from the start. From the reasons highlighted earlier, you know that there are many costs embedded into an ILP and they have a “lock-in” period. If you think a little deeper, you will understand why insurers can afford to do that. The bonus units you get upfront will eventually go back to the insurers through their fees and they do not need to worry about not being able to get it back as you are locked in during this period. You will notice the longer the lock-in period, the more bonus units you tend to get upfront.
For those who are looking for insurance coverage and investment, it is recommended to go with a term insurance policy and a separate investment fund. Keeping this separate allows for more transparency and flexibility to cancel one without affecting the other.
This is an article by InvestAble
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