Walk into any bank and ask for a fixed deposit, some relationship manager would take you on a side and recommend Single premium insurance policies. They would promise superior returns, life cover and tax benefits. They would commit liquidity in case you need cash in an emergency. As these promises would be made through Insurance Companies, there is a high probability that you would accept the offer.
This happens every day with thousands of customers who are willing to park their extra cash in a fixed deposit. Take the case of Ramesh Ji, who invested Rs 30 lakh in Single Premium Insurances with the hope of tax-efficient returns. Today, he regrets his decision.
Swati is a housewife. She wanted to open a fixed deposit of Rs 5 lakh and was sold a Single premium policy. After one year, she went to the bank to terminate the contract and came to know that she can terminate it but would get fund value after 5 years.
Since returns on fixed deposits have gone down, many people have been looking for alternate avenues to invest. They get easily trapped in buying Single premium policies from Insurance Companies which has reputed brand names.
Given below are myths and facts about Single Premium Insurances:
1. Single premium policies have two types:
- Traditional where a bonus is declared and maturity value can be guaranteed or non guaranteed.
- Unit Linked where money is invested in funds chosen by you. On maturity, you receive fund value.
- Depending on your risk appetite, you choose traditional or ULIP. But no one can guarantee the returns which will be dependent on the market interest rate, mortality cost and commission paid.
Lesson: Do not buy a Single premium policy in the hope of superior return and other promises.
2. Policy taxation would depend on the sum assured i.e money on death. As per Section 10(10)D, proceeds will be tax-free if death cover is more than 10 times of Premium.
For example, If you are depositing Rs 1 Lakh in a single premium then your death cover should be more than Rs 10 lakh. Even section 80 C also state that premium tax rebate is applicable only when death cover is more than 10 times of premium.
3. Returns on Single premium traditional policies can not compete with Fixed Deposits as per the reasons below:
- 100% money is not invested. only 95% to 99% money is invested depending on the commission paid, other mortality and admin costs.
- Returns in traditional products would be dependent on bonuses declared. It also depends on the Bonus philosophy of the Insurer. It may look bigger but remain the same till the maturity of the policy. So do not fall in trap of accrued bonus shown in the illustrations because it may not be compounding and may have a discontinuance cost in case of surrender of the policy.
- Returns in ULIPS would be dependent on market performance at the time of maturity or need.
4. Taxation on Purchase of Single premium policy:
- There is a 1.8% tax on the purchase price. So if your parking Rs 10 lakh in single premium then you are paying Rs 18000 as tax.
- In fixed deposit, there is no tax liability on purchase
Lesson: Compare the initial tax paid before calculating your return.
5. There is a surrender value in case you need emergency money:
- Traditional products can be surrendered but after paying surrender charges which vary from 2% to 5%.
- In ULIP, surrender is possible only in 5th
- In a fixed deposit, you can get your money as an emergency fund on a reduced interest rate.
- There is no surrender charge and you get more than your capital.
6. Due to taxation laws, most Single premium policies offer death cover from 1.25 times of premium to 10 times of premium. You get tax-free returns only when you opt for 10 times the cover of the premium paid. But you pay higher mortality and admin costs. Higher the life cover, lower will be return.
Buy Single-Premium Insurance only after getting full knowledge on returns, risk cover and taxation. Buy Single premium only when you want to oblige a Bank officer or agent.
If you are looking for death cover then go for term insurance which will be 5 times cheaper and in your control. You can easily buy a cover of Rs 25 lakh for Rs 3000.
Choose Mutual funds for returns, liquidity and control. Always have a fixed deposit of Rs 5 lakh for the emergency need of cash. All banks are offering Flexi accounts.
Banks officers and agents would always push Single Premium policies because they get over 2% commission along with incentives. So do not fall into the trap and opt for Term Insurance along with Mutual Funds.