Investment Linked Insurance Products – The Real Deal? (ii)

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There are many types of insurance plans out there in the market.

 

Getting the right product is crucial to ensure that your loved ones are well covered when unexpected things happen. 

 

 

 

In this article, we will continue to discuss the key features of Investment Linked Products. If you have not read our previous article, you can read it here.

 

We have previously written about the Premiums of an investment linked product where we covered aspects like the premium commitment required, and what a “premium holiday” really means. We also discussed the various Unit Funds you can invest in. In this article, we will discuss the various charges a policyholder is charged in an Investment Linked Product and liquidity of such a product.

 


 

3. Charges:

 

An Investment Linked product usually has a number of charges. Before you put your money into one, you need to understand what each of these charges mean for your money.

 

 

Allocation rate

 

The allocation rate reflects the percentage of the premiums that will be used to purchase units. The unallocated premiums, also known as the allocation charge, are usually used to cover for the insurer’s expense such as distribution and administration costs.

 

For single premiums and top-ups, the allocation rate varies from 95% to 100%.

 

For regular premiums, there are 2 types of allocation charges– the front-end load and the back-end load.

 

 

Front-end loading

 

There is low allocation rate in early years progressing to full allocation in later years.

 

The information on the allocation rate can be obtained from your Benefit Illustration. Here is an example:

 

 

Policy Year

 

1 

 

2 

 

3 

 

4

 

5 

 

6 

 

≥7 

 

 Allocated Premium

 

40% 40% 70% 75% 90% 90% 100%

 

 

Back-end loading

 

For this type of product, 100% of the premiums are used to buy units. The insurer will cover administration and distribution costs via ongoing charges that are imposed on your policy. If policyholder chooses to surrender the policy, there is usually a surrender penalty. The surrender penalty typically reduce the longer the policy remains in-force.

 

 

Bid-offer spread

This is the cost incurred when buying or selling units. When your allocated premiums are used to buy units, you are buying at offer price. However, when charges are deducted from your unit funds, you are selling at bid price. Usually the spread between bid-offer price is about 5%.

 

 

Fund switching charge

This is the administration cost incurred when you switch your funds.

 

The practice across insurers varies. Some insurers do not impose a charge for switching funds, while some offer a few free fund switches in one year.

 

 

Policy fees

This fee is the administration cost to maintain your policy and is deducted from your policy each month. This is usually a fixed amount, e.g. RM6. If you are paying a premium of RM600 per month, this is another 1% that goes to the insurer.

 

 

Insurance charge

Something that some people don’t realise is that any protection you choose to bundle with your Investment Linked product is paid for with your allocated unit funds. These charges are not guaranteed and also increase with age. This means that when you choose to use an Investment Linked product for protection, you are less able to hedge this risk than if you were to purchase a term insurance product which has a guaranteed premium throughout the policy term.

 

The insurance charge will depend on the coverage you choose. The basic protection coverage usually covers death and total and permanent disability. You can also choose to add other riders which will provide coverage in other areas such as critical illness, hospitalization benefit and other options. The charges vary according to age, gender and smoking status.

 

As age increases, the insurance charges will also increase. The amount of premiums that go into paying insurance will be more as you get older and hence less money is available for investment. There is a risk in this to you as a policyholder, and this cannot be emphasized enough. In the later years, if your accumulated funds are not enough to pay for the charges, your policy will be terminated. When this happens, you lose all protection coverage.

 

To prevent this, Investment Linked products usually requires either:

  • Increase in premiums to maintain the existing level of coverage at later years; or a
  • Adhoc Top-up to your account
  • Reduction in coverage in order to maintain existing level of premiums.

 

This is unlike traditional insurance products like term or par products where the premiums are guaranteed throughout the selected policy term.

 

 

Fund management charge

This is the cost of managing the Investment Linked funds. It is charged as a percentage of the fund value and varies from 0.5% up to 1.5% per annum.

 


 

4. Liquidity:

In the initial years, under front-end loading ILPs, there is little money left in the account to be withdrawn after the charges are deducted. Even if back-end loading ILPs are purchased, the policy will usually impose heavy penalty upon surrender or partial withdrawal during the first few years of the policy.

 

It is possible to withdraw some money from the policy during the initial years. However, the amount will be much less compared to the total premiums that you have paid to date. And when withdrawal is made, it is important to ensure that your account value is able to sustain all future charges to prevent the policy lapsing.

 

If it is important for you to have assets that are fairly liquid or to have ready a sum of money for any unforeseen circumstances, then an investment linked product, because of its lack of liquidity in the early years, is not recommended.

 

Furthermore, ILP is often sold as a savings product. This is not ideal because the amount of money that will be available in your funds will be highly dependent on the performance of the fund. Depending on your risk profile, you may choose to invest in equity, which will give you more potential to get higher returns but with higher risks compared to investing in bonds.

With higher risks, it means that the accumulated value in your account will also be more volatile. When the unit price falls, so will your accumulated value in your account. There is also a risk that you may get less than what you have invested.

 

 

In our next article, we will compare the premium outlay of Term Insurance against an Investment Linked Products.

 

 

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InsureDIY Sdn Bhd (Company Number: 1132626-X) is a licensed Financial Adviser with Bank Negara Malaysia. We are independently owned and are not owned by any insurance companies to ensure there is no conflict of interest.  

 

Within the Asia region, we have offices in Malaysia, Singapore and Hong Kong.

 

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