The Dark Side of Investment Linked Policy (ILP)

In relation to my previous article “My NTUC Income Life Insurance Policies”, a member requested for my opinion on investment linked policy (ILP). He also wrote that the investment linked policy that he had bought was not profitable. Is investment linked policy really that bad and is it worth your time and money?

In this article, I am going share my candid views on investment linked policy. Readers would know that I don’t mince my words, so I am going to pull no punches.

For a period of time, investment linked policy used to sell like hotcakes in Singapore because it has been marketed as a unique financial product that offers potentially high returns and insurance coverage. The commission fees for investment linked policy are usually very lucrative. Thus, obviously insurance agents would attempt to sell this type of insurance product in a bid to make more commission fees. But in my opinion, this is one of the worst insurance products for consumers and one should avoid buying it unless he is 100% sure of what he is buying into.

As a matter of fact, I have examined this topic before in 2015 (Frightening Truth about Investment Linked Policy). But I don’t mind re-examining this financial product if it can benefit members of SG Wealth Builder. However, a word of caution is that I am not a licensed financial adviser, so it may be better to consult qualified financial practitioners for their professional opinions.

Personally, I had been approached by numerous insurance agents to buy investment linked policies but I had never purchased one because I don’t really understand the structure of such product until a chance meeting with Brendan Yong of BeMoneySavvyToday.com. During that meeting, I learnt much about the difference between traditional whole life insurance and investment linked policy.

Whole Life Policy versus Investment Linked Policy

Brendan shared that traditional life policies pool premiums from policy holders and injected the monies into a fund invested in a portfolio of stocks and bonds. Expenses and claims are then deducted before the profits are distributed to holders in the form of declared bonuses.

Usually, the credit rating for the industry is $1 per $1000 sum insured, plus 1% per year. Once declared, the bonuses cannot be reversed and hence over time, the cash value will gradually build up.

On the other hand, investment linked policies work differently as the objective is to provide the holder to more exposure to investments. As such, the premiums are used to purchase unit trusts instead. Effectively, you are investing in a sub-fund through the investment linked policy, albeit with the additional protection coverage. You may also choose the sub-fund(s) which you would like to invest in.

For investment linked policy, there are no bonuses and the cash value depends on the performance of the unit trusts chosen.

Units may be insufficient to cover insurance charges

For investment linked policies, in the first few years, not all the premiums are used to buy unit trusts but instead used to cover distribution costs. The remaining fund is then used to buy unit trusts, less sales charges which typically is 5%.

Typically, in the first policy year, only 15% of the premium will be used to purchase units, followed by 30% in the second year, 50% in the third year and then 100% in the subsequent years. The most important thing to note is that insurance charges are deducted, along with policy fees, by selling units, on a monthly or yearly basis. The most outrageous thing is that the insurance charges do not increase linearly over the years, but exponentially.

What this means is that the policy holder may face the situation of having to top up his policy to pay his insurance coverage or reduce his insurance coverage because the units in his policy might have all been deducted to zero. This scenario may happen when the sub-fund(s) perform poorly, especially during economic downturns.

Warped structure of Investment linked policy

Due to its warped structure, investment linked policy is neither there as an investment product, nor here as an insurance policy. If the objective is to seek investment returns through unit trusts, why would I buy them through an insurance policy? In today’s context, there are so many online platforms to buy unit trusts at a more cost-effective way. If the intent is to seek protection, consumers are better off buying term policies or even whole-life policies.

And then there are various charges and fees like insurance coverage charges, fund management fees, administration charges, surrender charges, fund switching charges and bid-offer spread. With so many costs to consider, there are definitely better investment options out there to consider.

In terms of priority, we should first and foremost ensure that our hospitalization insurance coverage for our family is comprehensive enough. If possible, try to upgrade your family’s medical shield plans to a private one and buy riders to cover the co-insurance and deductible. MediShield Life pay outs are pegged only at B2 or C-type wards in public hospitals but it does not allow you to choose the doctor you desired. Furthermore, with public hospitals operating to the brink, you never know if you or your loved ones could be sent to private hospitals in times of emergency. When that happened and if you are not covered with any private shield plans, the medical costs could be catastrophically high.

The second tier of insurance should be to consider coverage for critical illnesses and permanent disability. This is where term insurance and whole-life insurance policies come in. These insurance products could be very useful if you are down with long-term illness and cannot work. Essentially, they protect your income and provide money to tide you over when you lost your income.

The third layer should be buying endowment plans for saving purposes. You may be planning for your children tertiary education or preparing for retirement. Endowment plans can serve to fulfil this function of saving. In terms of yield, the returns may not be fantastic but I viewed it as a form of compulsory saving.

Conclusion

To sum it all up, I consider investment linked policy to be a terrible insurance product and I do not foresee myself buying one. My strategy is still to keep a portfolio of term, whole-life insurance and endowment plans for protection and saving purposes. For investment purpose, I would rather buy stocks and invest in properties.

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