Capital Gains Tax …. What is the Best... ULIP or Equity Mutual Fund?

After the recent release of Central Budget public attention has turned towards ULIP (Unit Linked Insurance Policy). The reason for this is the announcement made by Finance Minister, Arun Jaitley that ‘if the capital gains from shares and equity mutual fund investment go beyond Rs 1 lakh, 10% tax should be paid’.

In continuation of this announcement, a few insurance companies started advertising that income from ULIP will be more than the profit we get from equity mutual funds. Because of this, the public attention has turned towards ULIP that was not popular with investors for the past ten years.

Before we venture into the fact of those claims let us list out the advantages and disadvantages of ULIP and equity mutual funds.

ULIP – Disadvantages

There is allocation annual fee of2-5 % with regard to ULIP.

There is also an annual policy administration fee of Rs 700 at the minimum and a maximum of Rs 1000.

There is also a deduction of a minimum of Rs 1 and a maximum of Rs 12 from the premium for each Rs 1000 worth of insurance as insurance fee. Further, it will vary based on the age factor.

Cannot surrender the policy before five years of policy having bought.

If there is a compulsion to surrender the policy before five years, 2 – 6 % penalty to be paid.

It can only be profitable if the policy is continued for a minimum of ten years paying the premium. Besides, it will be profitable only if the share market is doing well.

If the performance of the insurance policy you have taken is poor it cannot be transferred to another insurance company.

* 12% income, prior to fund management fee

ULIP – Advantages

Under Income tax section 10(10)d, there is no income tax for the matured or compensation amount.

Without short term or long term capital gain tax, there is a provision to change from one fund to another fund.

Let us now look into the advantages and disadvantages of mutual fund schemes.

Let us now look into the advantages and disadvantages of mutual fund schemes.

Equity Mutual Fund – Advantages

There is no allocation fee. Without any loss total amount will be invested at 100%.

There is no management fee. There will be expenses at a maximum 2.5%.

There is no insurance allocation fee.

According to your need investment can be taken back (within the capital gains tax, 10%, 15%).

When there is a need for income tax exemption, investment can be made on share market-based savings schemes like ELSS funds.

Equity Mutual Fund – Disadvantages

If the units are sold within a year, 15% short-term capital gain tax for the profit should be paid.

If the units are sold after a year, and it is more than Rs 1 lakh, 10% long-term capital gain tax for the profit should be paid.

What is the best option?

Investing in equity mutual fund and paying long-term capital gain tax of 10% it will be the best investment. Let us look at it with an example.

A person of 40 years age, investing Rs 60,000 annually on one of the best ULIP plans, and another person of same age, investing Rs 60,000 for 7 lakh term plan and investing the remaining amount in an equity fund (Refer Table 1 and 3).

Income through ULIP

While paying Rs 60,000 as premium on ULIP policy, after deducting Rs 3,600 as premium allocation fee, Rs 1,266 as insurance fee, and Rs 1,144 as Goods and Services Tax (GST), the balance amount will be invested. If we get 12% income through this policy, 1.35% will be deducted as policy fund management fee at the end of the year and there will only be Rs 58,857 remaining. Further, every year, the above-mentioned fees will be deducted every year and the balance amount only be invested.

At the end of ten years on policy maturity, one will get Rs 9,97,668. Further, if the policyholder dies in any of the years during the period of the policy, the person’s family will get an amount based on the money value on the fund on that particular year of death or insurance amount, whichever is higher.

Further, if the investment is based on the share market, there is only a scope of 12% income in the long term (In Table 2 share market based ULIP plans for the past years is provided. If their income is analyzed, none of the ULIP policy had 12% profit in the past ten years).

Income through Fund

Now, let us consider the income from investment on mutual fund plans. Let us assume that paying Rs 60,000 as an annual investment, and within that Rs 2,611 is paid as premium on term insurance, the balance amount is invested on equity mutual fund (Refer Table 3).

Through this investment one will get more profit and if the policyholder dies unexpectedly within 4 or 5 years after having taken the policy, the holder’s family will get more amount compared to what ULIP would provide.

While considering the income percentage in the past, through best mutual fund plans there is a scope for getting profit more than 12% (In Table 4, income for ten years and also Large and Midcap funds in years 1, 3, 5 and 10 years have been provided).

Therefore, the tax announced in the budget of this year will get you only meager loss through the total profit gaining from equity mutual fund plan. But there will not be better profit from ULIP plans for the investors.

Hence, there is no doubt that more than ULIP, investment on equity mutual fund and term plans will be the best option.

(This article written by S Sridharan of Wealthladder.co.in in Tamil for Naanayam Vikatan magazine date 4/3/18 has been transcreated in English by V Amalan Stanley)