Investment Linked Policies (ILP)
Asked on 07 Sep 2019
Why is everyone saying ILP is bad?
I understand not to mix investment with insurance but there are some ILP plans that have minimal insurance portion.
I know the fees are slightly higher but can non professionals like us outperform the team who are managing the funds?
I went to look at AXA pulsar/wealth accelerate. You can read the brochure and let me know if it's the kind of ILP that tries to earn lots of commission by mixing investment and insurance.
It's not an easy answer, because ILP by itself is a category of products.
Saying that ILP is bad, is similar to saying "Stocks trading is bad", or "Options writing is bad", or "Buying insurance is a waste of money"
Traditional ILP came about when people were unhappy with par fund returns of whole life policies, and they wanted more flexibility and control. Insurers then flip it around and gave people full flexibility. The biggest problem with that was that cost of insurance climbed over the years, and before you know it, people were actually left with a depleted account in their old age where they needed the coverage the most.
More recently, you see a lot of ILP which is primarily an investment product but sold by insurers or financial advisory firms. Typically nicknamed 101ILP, they usually provide a death coverage of 101% of total premiums paid, or in other words, not much insurance coverage. In this sense, it's really not mixing investments with insurance.
In this space of wealth based ILPs, you have AXA Pulsar, Manulife InvestReady Wealth, and Tokio Marine Atlas Wealth as the top 3 most popular ones. How it usually works is that you get an upfront bonus that may be paid in the first year, or up to a few years, but you have to commit to a time horizon.
I will use Manulife InvestReady Wealth as an example because it's simpler to understand. All 3 illustrations are available online. https://www.manulife.com.sg/our-solutions/invest/investment-linked-plans/investready-wealth.html
In the case of Manulife InvestReady, the illustrated example shows a choice of a 20-year plan where the annual premium is $12k. You get an upfront bonus unit of $7,200 (or roughly 60%). In the case of TM and AXA, they tend to give a bonus of up to 200% but spread over a few years. The trick you will see is the annual charge.
Back to InvestReady, this means you start the account with $19,200 worth of investments. You have to pay a fee of 2.5% (made up of 0.7% and 1.8%) every year, for the first 10 years. After that, it will be a fee of 0.7% subsequently. A way to think about it, is that the upfront bonus units is used to offset the 2.5% paid over the subsequent years. If you were to run your numbers, in theory the additional bonus units might put you ahead of people who buy unit trusts directly. As for AXA and TM, they give much higher bonus units, because the fee charge per annum is also much higher, up to 7% per annum.
So the balance point is if you believe that over the long run, investments are uptrending or not. If so, then bonus units help, since you frontload your profits.
The biggest downside I see if you are locked in for the committed time period. If you surrender or withdraw before that, you are likely to lose a large chunk of it.
To be fair, I think it's quite neutral versus directly investing in unit trusts. You can probably only say for sure on hindsight.
You need to understand your objectives too, because even within the unit trust space, there are many pricing models, such as wrap accounts, non wrap, etc.
ILP is a bundled product comprising (i) protection (insurance) and (ii) investment components. In traditional insurance which also contain the protection and investment components, the insurance company will basically break the premium you pay into the two components. The protection component usually is small compared to the investment component. This is because insurance companies tend to ramp up the investment component.
Why? One possible reason is the commission sales structure, sales people will generally prefer higher premium products to sell - simply because of the higher commissions they will earn.
In the case of traditional insurance, the insurer will have to invest the investment (or savings) component - to generate returns for the policyholder. But often the insurer can only invest mostly in conservative investments such as bonds because of the long term nature of insurance policies and capital-based regulations. This is not ideal typically for a young person who has a long-time runway.
In the case of the ILP, the insurer essentially "outsources" the investment burden to a third party manager(s). The sum assured will also depend on the performance of the investments.
The key question is whether the traditional insurance product or the ILP is suitable for a person. The clue is that most ILP holders treat it like an investment. But an ILP is an insurance product. So there is an element of mis-selling here if the client treats it as an investment. The key factor is that unlike normal investments, you cannot simply liquidate or exit the investments in an ILP - because you will also lapse the insurance component. Statistically, you are less insurable with time. This poses the dilemma of re-insurability.
It is far better and more flexible to BUY TERM & INVEST THE REST. No need to bundle. You can enjoy your protection at lower charges and cost while having full flexibility to invest. ILPs came about more due to tax benefits where such premiums can be tax-deductible. In Singapore, there is no such benefit. In short, ILPs are not ideal.
The bugbears I have with ILPs are always fees and fund performance. For every per cent of fees eventual profits (if any) are eroded quite a fair bit. Investment moats talked about it. Tony Robbins talked about it. This is quite well documented. Pulsar has about 4%+ fees if I recall so you can do the math.
Do you really want to pay for fund managers who deliver negative returns? And yes it is VERY possible to outperform professional unit trust fund managers with their measly returns. I'm looking at 4-5% returns per month on my own DIY portfolio.
Summing up my own experience which I had also "cut loss" last year due to individual circumstances.
1) I find that ILP incurs a lot of fees. There is the admin fee, there is a sales charge, there is a deduction for insurance coverage, and the fund itself has own deductions for its own management fee. If you total it up, the fees can be as high as 7% of your premiums... FYI, that means if the fund return was less than 8% a year, I would see a year on year drop in total value vs premiums paid. As I was sold the policy of retirement savings, it was very difficult for me to see how that was "saving" because the fund had difficulty meeting 8+% every year, that I calculated I was actually better off buying SSBs as an alternative to the (fund return less total fee cost).
2) On the 101 death coverage part, I don't really want the death coverage, which was meaningless to me as I already had whole life policy since graduation. It didn't cover any other type of risk, so I really struggled with why I was paying the deductions for this 101% death coverage. I was not getting value for the money paid. Anyway, it's for retirement which I am supposed to be alive right? So the death benefit benefits whom?
3) The ILP was like a death noose because I felt constantly stressed and held like a hostage to maintain the 750 monthly premium. In 2018, I was forced to decide whether I would keep the property or the ILP as I prepared myself to be made redundant for the third time in my life. That was unique to my own situation, but it alerted me to the high inflexibility of the ILP. At a position level that is moderately threatened by redundancy, I find that I needed something that I could scale the contribution level according to my comfort level and need for cash. SRS and RSTU suit that very well coz if I lose my job, I could stop contributing and don't have to cough up the 750 monthly premiums on top of servicing the loan and cutting back on the family budget.
4) Sorry to say the ILP didn't have tax reliefs like SRS and RSTU. There might be something still similar that can be bought with SRS contributions, but I would still pay attention to the fees.
5) Unique to myself. The company (Friends Provident) offering the ILP was undergoing a lot of changes, either the owner/parent company / CEO / where the company was based / accounting policy to value the investments/fund manager/fund denomination currency was being changed each year (for the four years I was holding). I really could not understand how I could have seen two CEO switches within 4 years, I was very concerned it would go bust... As I paid more attention in 2018, I think the fund manager changed strategies... He was playing tech (FANG) in first six months, then switched to healthcare when facebook and google lost money, then changed to index investing and I had no idea what indices those represent. To stabilize the fund performance from losses under FANG stocks, he went to switch the fund currency to GBP. That hit the nail in the coffin. In 2018, the fund lost a total close to 27%, most of the loss in December primarily from the change of fund currency..... My investments only lost by like 3% in 2018, and I recovered back quite well this year. For the fund, it has been underperforming vs his benchmark, and as much as 10% less than my own. I find the fund manager more of a gambler, to be honest.
End of the day, if the "smart manager" is only as smart as buying indexes, I could save cost (cutting out his fees) and DIY myself right?
That's my two cents.
Some financial consultants like to assert that there are different types of ILPs. Some are more “investment-oriented” and some are not. I agree.
However, at the end of the day, ILPs is manure as an investment product.
And as the saying goes, you can put a flower on manure, it is still a manure.
1) policy fees charged upon your policy
2) extra management fees that would have been lower if you go direct via UT
3) extra sales charges (which they cover with extra unit bonus in the long run)
4) some ILP also have mortality charges.
5) Hidden costs via the spread, usually 5%, a hideous amount given the trend of lowering spread nowadays.
Not saying its bad or good, judge on your own for the above fees.