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What is an Investment-Linked Insurance Policy (ILP)?
An investment-linked insurance policy or ILP is a life insurance plan that combines insurance coverage and investment.
This type of plan allows a policyholder to set the insurance coverage and investments unique to his policy, with the flexibility that he can change them during the policy’s term. Many types of ILPs also allow policyholders to withdraw part of the cash value of the policy.
While other types of life insurance plans such as whole life and endowment also offer insurance coverage and investment components, a key difference is that for an ILP, the policyholder determines the investment strategy of his policy and thus bears the investment risk.
What types of ILPs are there and how does the insurance coverage work?
ILPs can be differentiated by the premiums that are contractually payable. They are:
- Single premium ILPs: The insurance coverage for this type of ILP is generally less than that found in regular premium ILPs. Only one premium is contractually payable, although some insurers will allow additional payments by way of scheduled payments known as ‘recurrent single premiums’ or ad-hoc payments known as ‘top-ups’.
- Regular premium ILPs: While generally offering higher life insurance coverage than single premium ILPs, such plans allow policyholders to vary the level of insurance coverage during the policy term. Premiums need to be paid on a regular basis and there is usually a term for these premium payments.
ILPs provide benefits for death, although some also cover total and permanent disability (TPD) and allow riders to be added as well. Depending on the ILP, the death or TPD benefit may include the higher of the sum assured, the cash value of the policy, or a combination of both.
Depending on the insurer, the insurance coverage for an ILP can be paid for in one or more of the following ways:
- Deducted from the premium before it is used to purchase units of the relevant sub-fund(s);
- Selling the units allocated to the policy at the prevailing price of the sub-fund(s); or
- A combination of both.
While the premiums of a regular premium ILP may remain the same throughout the policy term, the cost of insurance coverage for it usually increases over time.
How does the investment portion work?
When a policyholder selects the sub-fund(s) to be allocated to his policy, he determines the investment strategy of the policy and assumes the investment risks for it. This is different from whole life insurance or endowment insurance plans where the insurer determines the investment strategy and assumes the investment risk.
Whatever remains of the premium after deducting for insurance coverage, distribution costs and fees, is put to use to purchase units of the sub-fund(s). The total value of all the units allocated to the policy is its cash value.
Depending on the ILP, insurers will provide policyholders with a range of sub-funds to choose from. Insurers will also furnish information and documentation to explain these sub-funds’ investment strategies and approaches, as well as the potential risks associated with them.
Some insurers offer a limited number of free ‘switches’ for the units and charge a nominal fee per switch thereafter. This allows you to move your money from one sub-fund to another. It may be helpful for you to consider this if your financial circumstances or risk appetite changes and you no longer find your current sub-fund suitable.
What risks does an invesement-linked insurance policy carry?
In general, ILPs carry the following risks:
- Investment risks. The cash value of such a policy varies as it depends on how the performance of the chosen sub-fund(s) and the number of units allocated to the policy. In other words, ILPs generally do not offer any guaranteed cash value.
- Increasing insurance charges. Insurance coverage charges for ILPs usually increase over time, even for the same insurance coverage. Insurers may also increase these charges if there has been a sustained rise in claims for a class of policies. If so, any increase would apply to an entire class of policies, and not just to an individual policy.
The combined impact of both risks would be the loss of insurance coverage if the premiums paid and cash value of the policy are insufficient to maintain the insurance coverage. A policyholder may have to ‘top up’ his premium payment or reduce the insurance coverage to avoid losing his insurance coverage altogether.
Can I invest with my CPF savings?
You can use your CPF savings to pay for an ILP if it falls under the CPF Investment Scheme. For more information, please refer to the CPF Board website.
Is an investment-linked policy right for you?
You may want to consider the following:
The insurance coverage that you need
Some ILPs are more investment-heavy with minimal insurance coverage, while others allow you to set the level of coverage you require. Do note that the more you get coverage for, the more units you will need to pay for, too. This leaves lesser units for investment. If you do not need the insurance coverage offered by an ILP, you have to consider if it is worthwhile paying for it.
Your investment objectives, investment time horizon and your risk appetite
In general, ILPs are suitable for people with a longer investment time horizon. These insurance plans allow them to ride out any market fluctuations and defray the initial costs of setting up the policy, which can significantly limit short-term potential returns.
When you are aware of and understand your investment objectives, investment time horizon and risk appetite, you can assess if the various sub-funds available for the ILP are suitable for you. This is especially true after you go over and understand their investment objectives and risk profiles.
If you have considered a particular sub-fund’s historical performance, be mindful that this is not indicative of the sub-fund’s future performance.
Long term affordability of the policy
You also need to consider if you can keep up with the premiums if you no longer earn an income, especially if you are taking up the plan when you are older.
The above considerations are not easy to do on your own, which is why you should seek out a Financial Adviser and get financial advice before deciding on whether an ILP is suitable for you.
