Insurers are prodding investors to buy insurance policies. It comes with a rider, though: Buy these before 1 April and get tax-free returns. With the financial year-end now nearing, their sales pitch has been flying thick and fast: “Budget 2023 has made life insurance policies with annual premiums above ₹5 lakh taxable from 1 April onwards. Buy one right now to lock into tax-free guaranteed returns.”
But with many such policies offering pre-tax annualized returns (XIRR, or extended internal rate of return) of only 5.8-6.5% and lacking the flexibility of anytime exit, there’s no compelling reason to invest in them. That the marketing material for such policies mostly mentions the absolute figures—the total money that you get by the end of the policy, rather than returns, makes them appear more lucrative than other alternatives in the market. The XIRR can be considered similar to the commonly-used compound annual growth rate (CAGR) for these kinds of products.
Also, proceeds from such policies are currently tax free. However, if the tax proposals in budget 2023 become law, proceeds from any life insurance policy (non-ULIPs) taken from 1 April onwards where the annual premium is over ₹5 lakh will be fully taxed. For unit linked insurance plans (ULIPs), the threshold has already been set lower at ₹2.5 lakh.
Guaranteed return plans
Among the popular products in the market is HDFC Life Sanchay Plus that comes with the option of a guaranteed pay-out—either in the form of a lumpsum, or a regular income over a fixed term of 10, 12, 25 or 30 years, or up to the age of 99 years —in return for premium paid over a period that can range from 5 to 12 years. This product comes with four options—long term income option, guaranteed maturity option, guaranteed income option and life long income option. While these plans offer a life cover too, that is not their unique selling point (USP). One can get a better life cover at a lower premium with a pure term plan.
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For example, under one variant of the guaranteed income option, after paying an annual premium of ₹1 lakh (plus GST) for 12 years, you can get a guaranteed income of ₹2.34 lakh per annum for 12 years, that is, from the 14th to the 25th year. This amounts to an annualized pre-tax return (XIRR) of 5.8%. Under one variant of the guaranteed maturity benefit option, for annual premium of ₹1 lakh (plus GST) for 10 years, you can get a guaranteed lump-sum of ₹24.8 lakh once the policy matures after 20 years. This amounts to an annualized pre-tax return (XIRR) of 6.5%. These calculations take into account the GST that one pays on the insurance premium—4.5% in the first year, and 2.25% in every subsequent year.
Low-risk alternatives
Investment products such as target maturity funds or TMFs (a type of mutual fund) are a good alternative to guaranteed income plans from insurers. TMFs are debt funds with a defined maturity that invest in high credit quality debt papers. They provide some degree of return predictability to those who remain invested until the fund’s maturity. With bond yields having moved up significantly since the Reserve Bank of India (RBI) commenced its rate hikes, TMFs can give you similar or better returns even on a post-tax basis. They also come with the flexibility of any time exit. To get a regular annual income over a period of time, you will have to invest in TMFs of differing maturities. However, note one important difference – unlike guaranteed income plans from insurers, the market-linked TMFs offer predicable (to a large extent) but not guaranteed returns. TMF returns are taxable at 20% after a holding period of 3 years, but the effective rate of tax can come to just 10-15% after you include the effect of indexation.
Then, the government-backed senior citizens savings scheme (SCSS) that offers 8% per annum is a no-default risk option for those over 60 years of age. The interest rates undergo a quarterly review by the government. You can invest up to ₹30 lakh in the SCSS which comes with quarterly interest pay-outs, and a five-year lock in. The scheme is eligible for deduction under Section 80C of the Income Tax Act. The returns are taxable at slab rate, but if you are in the 20% tax bracket, this comes to 6.4% post tax – compared to the 5.8-6.5% offered by some insurance policies.