Key difference between Traditional and ULIP (Unit Linked Insurance Plan) Policies

Traditional Policies are conventional life insurance plans that provide financial protection along with guaranteed returns. These policies primarily include endowment plans and whole life insurance, offering a fixed sum assured along with bonuses declared by the insurer. Unlike market-linked products, traditional policies do not invest in equity markets, making them low-risk and stable. They are suitable for individuals seeking security, disciplined savings, and assured maturity benefits. Premiums are fixed, and the policyholder receives a lump sum at maturity or their family receives the sum assured in case of untimely death. Traditional policies also offer tax benefits under relevant provisions.

Functions of Traditional Policies:

• Life Risk Coverage

Traditional policies primarily offer life risk coverage, ensuring financial protection to the policyholder’s family in the event of their untimely death. This guarantees the payment of a predetermined sum assured, providing a safety net to dependents. Unlike market-linked products, traditional policies provide fixed death benefits, which brings peace of mind. This function supports long-term family security, especially for dependents who rely on the insured’s income for their daily and future financial needs.

• Guaranteed Returns

A unique function of traditional policies is the provision of guaranteed returns. These policies promise a fixed maturity amount, which includes the sum assured plus accrued bonuses. Since the returns are not linked to market performance, they are ideal for risk-averse investors. The guaranteed nature of returns allows policyholders to plan for future expenses like education, marriage, or retirement with more certainty. It also promotes disciplined saving habits over the policy term.

• Capital Formation

Traditional policies help in capital formation through regular premium payments that accumulate over time. The policyholder builds a corpus through bonuses declared by the insurance company, usually annually. These bonuses can be reversionary or terminal, and they enhance the final payout. This accumulated fund serves as a long-term investment to meet future financial goals. The guaranteed savings element makes these policies a secure instrument for wealth accumulation and financial planning.

• Bonus Declaration

One of the core functions of traditional policies is the bonus declaration system. Policyholders are entitled to receive periodic bonuses, depending on the profits of the insurance company. These bonuses, usually expressed as a percentage of the sum assured, add value to the policy. Bonuses can be simple or compound and are paid at maturity or during the claim settlement. This function enhances the overall benefit without additional cost to the policyholder, increasing the return on investment.

• Tax Benefits

Traditional insurance policies provide attractive tax advantages under the Income Tax Act, 1961. Premiums paid are eligible for deduction under Section 80C, and the maturity or death proceeds are generally exempt under Section 10(10D), subject to conditions. These benefits encourage long-term investments in life insurance and help individuals plan their taxes efficiently. The dual benefit of insurance and tax savings makes traditional policies a favored financial instrument, especially among salaried individuals.

• Long-Term Financial Planning

Traditional life insurance policies are structured for long-term financial planning. The fixed tenure and consistent premium payments help build financial discipline, while the guaranteed benefits at maturity assist in achieving specific financial goals such as children’s education, marriage, or retirement planning. Since these policies are not subject to market fluctuations, they offer predictable outcomes, which makes them suitable for individuals looking for stability in their financial future and wealth preservation over time.

• Loan Facility

Traditional policies often come with a loan facility, allowing policyholders to borrow against the surrender value of the policy. This function provides liquidity in times of financial need without breaking the savings cycle or affecting the coverage. The interest rates on such loans are usually lower than unsecured loans. It offers policyholders flexibility while keeping their policy intact, making it a practical tool during emergencies or for fulfilling short-term financial requirements.

• Encouragement of Savings Habit

Traditional policies play a crucial role in inculcating a habit of regular savings. The obligation to pay premiums at fixed intervals helps individuals plan their expenses and save systematically. Over time, this leads to the creation of a substantial financial corpus. The certainty of returns and financial security acts as motivation to stay committed to the savings plan. It promotes a disciplined lifestyle and ensures financial readiness for future uncertainties.

Unit Linked Insurance Plan (ULIP) Policies

Unit Linked Insurance Plan (ULIP) is a hybrid financial product that combines life insurance coverage with investment opportunities. A portion of the premium paid is used to provide life insurance, while the remaining is invested in equity, debt, or balanced funds, depending on the policyholder’s preference. ULIPs offer flexibility to switch between funds and are suitable for long-term wealth creation. The returns are market-linked, and the value of the policy depends on the performance of the chosen funds. ULIPs also provide tax benefits under Section 80C and 10(10D) of the Income Tax Act, making them a popular investment-cum-insurance option.

Functions of ULIP Policies:

• Dual Benefit of Insurance and Investment

ULIP policies combine the protection of life insurance with wealth creation through investments. A portion of the premium goes towards providing life cover, while the remaining is invested in market-linked instruments such as equity, debt, or balanced funds. This dual structure enables individuals to ensure their family’s financial safety in case of an unfortunate event, while also building a long-term investment corpus. The balance between risk protection and market exposure makes ULIPs ideal for individuals with long-term financial goals like children’s education or retirement planning.

• Flexibility in Investment Options

ULIPs offer the flexibility to choose from a range of investment funds, based on the policyholder’s risk appetite—be it equity, debt, or hybrid funds. Policyholders can actively manage their investments and even switch between funds during the policy term, often without incurring additional charges. This dynamic structure allows investors to respond to changing market conditions and optimize returns. The flexibility to rebalance portfolios as per financial goals and market trends is a unique function that distinguishes ULIPs from traditional life insurance products.

• Wealth Creation Over Time

One of the core functions of ULIP policies is to facilitate long-term wealth accumulation. Since ULIPs are linked to market performance, they offer higher potential returns compared to traditional policies, though with associated risk. With the power of compounding, regular investments over the years can result in a significant corpus. The fund value depends on the Net Asset Value (NAV) of the chosen fund. Thus, ULIPs are suitable for goal-based savings like buying a house, starting a business, or planning for major life events.

• Transparency and Control

ULIPs are known for offering high transparency in terms of charges, fund allocation, and investment portfolio. Policyholders receive regular updates about the performance of their funds, the breakdown of charges (like mortality, fund management, and premium allocation), and the Net Asset Value (NAV). This empowers them to make informed decisions and gives a sense of control over their investments. Additionally, ULIPs also offer tools such as online fund trackers and performance dashboards, enhancing customer experience and helping them stay actively involved in managing their investments.

• Tax Benefits

ULIPs provide attractive tax-saving opportunities under the Income Tax Act, 1961. Premiums paid are eligible for deductions under Section 80C, up to ₹1.5 lakh per annum. The maturity proceeds are also tax-exempt under Section 10(10D), provided the sum assured is at least 10 times the annual premium. These tax benefits make ULIPs a cost-efficient investment avenue, especially for those seeking both insurance protection and market-linked returns, while simultaneously reducing their taxable income and ensuring tax-efficient long-term financial planning.

• Partial Withdrawal Facility

ULIPs offer a partial withdrawal option after a lock-in period of five years. Policyholders can withdraw a part of their fund value to meet unforeseen expenses such as medical emergencies, education costs, or short-term financial needs. This function provides liquidity without needing to surrender the policy. Withdrawals are generally tax-free and do not affect the remaining investment or insurance coverage. This feature enhances the flexibility and utility of ULIPs, offering policyholders a combination of protection, returns, and access to funds when needed.

Key difference between Traditional and ULIP (Unit Linked Insurance Plan) Policies