NRIs have many investment options in India, including fixed deposits, bonds, mutual funds, stocks, ULIPs, and REITs. Mutual funds and ULIPs (Unit Linked Insurance Plans) are the most popular investments, catering to different investment needs. Let's see which is a better investment for NRI mutual funds vs ULIPs.
What are Mutual Funds?
Mutual funds are one of the most popular investment avenues in India, and over the last few years, they have also been gaining the attention of NRIs. They pool money from investors with a common objective and invest in equity and debt securities.
There are different types of mutual funds based on the asset class, duration, and risk involved; as investors, you can choose any fund that aligns with your goals and risk tolerance levels.
Mutual funds are managed by professional fund managers who invest on behalf of all investors. They perform extensive market research before selecting securities for the portfolio. Mutual funds are highly liquid, and some kinds of mutual funds offer tax benefits upon investing in them.
What are ULIPs?
ULIPs are instruments that offer the dual benefits of insurance and investment. They provide insurance coverage while helping investors generate returns by investing in different avenues. The investments are usually made in equity securities, debt securities, or a combination of both, just like mutual funds.
When you invest in a ULIP plan, you can choose the type of fund you want to invest in based on your investment goal, tenure, and risk tolerance level. ULIPs have a 5-year lock-in period, making them suitable investments for long-term goals.
ULIPs offer investors a host of tax benefits, including benefits under Section 80C and Section 10(10D). Also, within ULIPs, a new category named 4G ULIPs offers more flexibility than traditional ULIPs. For example, instead of investing in one fund, investors can choose to invest in multiple funds within the same policy.
Difference Between Mutual Funds and ULIPs for NRIs
Following are the major differences between ULIPs and mutual funds.
Investment objective
The investment objective of both mutual funds is to create wealth for its investors for short and long tenures. ULIPs, on the other hand, combine the benefits of insurance and wealth creation.
Return
Although both mutual funds and ULIPs' returns depend on market conditions and the underlying portfolio, mutual funds have the potential to offer higher returns than ULIPs. This is primarily because a part of your investment goes towards insurance premiums, which affects the overall returns of the ULIP investment.
Risk cover
ULIPs come with built-in insurance coverage that ensures your family's financial future is secure in case of your unexpected death. Mutual funds, on the other hand, do not have life insurance. You must purchase a separate term insurance to cover your family's financial future.
Lock-in period
ULIPs have a lock-in period of three to five years. This is primarily because the insurance company defines a lock-in period before the investment can be redeemed. On the other hand, mutual funds do not have any lock-in period, except for equity-linked savings schemes (ELSS), which have a lock-in period of three years. This makes mutual funds more liquid compared to ULIPs.
Expenses
Between the two, the expenses in mutual funds are comparatively lower than those of ULIPs. This is because the Securities and Exchange Board of India (SEBI) has capped the expense ratio for mutual funds at 2.25%. However, there is no such limit for ULIPs. They usually have various charges, such as mortality, fund management, policy administration, premium allocation, surrender, and switching charges. All these are usually hidden, which can impact the overall returns.
Transparency
Mutual funds are very transparent when compared to ULIPs. As per SEBI regulations, mutual funds must disclose the expense ratio, net asset value (NAV), and portfolio at regular intervals. For ULIPs, although the portfolio and underlying funds they invest in are usually disclosed, the complex fee structure is not. This makes ULIPs less transparent than mutual funds.
Tax benefits
With respect to tax benefits, ULIPs surely have the upper hand against mutual funds. Investment or the premium paid in ULIPs is tax deductible. Moreover, the death benefit paid to the nominee is tax-free. If the ULIP is held for more than three years, the gains are considered long-term capital gains and gains up to Rs 1.25 lakhs are exempt. If the gains exceed Rs 1.25 lakhs, they are taxed at 12.5%. Only investments in ELSS funds are eligible for tax deductions for mutual funds. The short- and long-term gains are taxable per existing rules and based on the mutual fund type.
Mutual Funds vs ULIPs for NRIs
Which is Better for NRIs - Mutual Funds vs ULIPs?
Both ULIPs and mutual funds are popular investment options for NRIs. However, both cater to different investor needs. Mutual funds are suitable if you have short, medium or long-term horizons. They are also a top choice if you want to earn high returns by taking the additional risk and prefer high liquidity. Moreover, mutual funds must be your go-to investment if you already have insurance.
ULIPs, on the other hand, are suitable if you want to enjoy the dual benefits of insurance and investment. You can also choose ULIPs with a long-term horizon of over five years and want to enjoy tax benefits. Moreover, ULIPs might be a good choice if you prioritise safety over high returns.
Hence, assessing your investment goals, horizon, and risk tolerance levels is important before selecting the right investment for your portfolio.
Factors to Consider Before Deciding Between Mutual Funds vs ULIPs for NRIs
Picking investments for your portfolio can be tough. The following factors could help you choose between ULIPs and mutual funds.
- Objective: Mutual funds aim at wealth creation, whereas ULIPs also combine insurance benefits. If you are looking for dual benefits, ULIPs are your go-to investment.
- Returns: Mutual funds, historically, have given high returns in the long term. They have the potential to generate wealth as they invest majorly in marketable securities. ULIPs, on the other hand, comparatively give lower returns. Mutual funds should be your preferred choice if you are looking to create long-term wealth.
- Flexibility: Mutual funds are of several types, giving investors the needed choice for different investment goals. Moreover, they are very liquid, allowing investors to withdraw their money whenever necessary. Mutual funds also have different modes of investment, namely lumpsum and SIP (Systematic Investment Plan). In addition, mutual funds allow partial withdrawal. ULIPs, on the other hand, have a lock-in period. This restricts investors from withdrawing their money for a certain period. ULIPs also have a minimum unit clause in case of partial withdrawals and levy high fund-switching charges.
- Expenses: High expenses could mean lower returns. Mutual funds have lower expenses than ULIPs, making them a preferred choice for many investors.
- Taxes: Tax benefits could be a primary deciding factor for many investors. For ULIPs, the premium paid is tax deductible under section 80C of the Income Tax Act, 1961. Mutual funds offer no such benefits except for ELSS funds. The maturity proceeds, however, for both are taxable as per existing rules.
Conclusion
Both ULIPs and mutual funds are popular investment choices for NRIs. However, mutual funds seem to have the upper hand with respect to returns, liquidity, and expenses over ULIPs. Before choosing any investment, it is best to assess your investment goals and risk tolerance levels.
Frequently Asked Questions
Is ULIP good for NRI?
ULIPs offer the dual benefits of insurance and investment. Like mutual funds, they invest in marketable securities, but their returns are slightly lower. This is primarily because ULIPs have hidden costs, which ultimately reduce the overall returns.
Are mutual funds good for NRI?
Mutual funds are among the most preferred investments in and outside India. A wide variety of funds cater to various investment needs. Mutual funds can also generate high returns over a long period of time. Moreover, they are extremely liquid, enabling investors to withdraw money whenever necessary.
Is ULIP better than a mutual fund?
ULIPs come with dual benefits: insurance and investment. Moreover, they also have slightly lower risk when compared to mutual funds. However, in terms of returns, mutual funds have the upper hand. Mutual funds tend to offer higher returns than ULIPs in the long run. Also, mutual funds are highly liquid when compared to ULIPs. All this makes mutual funds slightly superior to ULIPs. However, it is important that you consider your investment goals and risk tolerance levels before investing.
What is the best investment for NRI?
NRIs have a host of investment options available to them. They can choose from mutual funds, FD, ULIPs, stocks, REITs, and government bonds, to name a few. The best investment is the one that helps NRIs achieve their investment goals and aligns with their risk tolerance levels.
Read more about NRE FDs here.
What are the tax benefits of ULIPs for NRIs?
The premium paid to purchase the ULIP plan is deductible under Section 80C of the Income Tax Act of 1961. However, the maximum deduction is Rs 1.5 lakhs under the old regime. Moreover, if the policyholder dies, then the death benefit is completely tax-free in the hands of the nominee. Upon redemption of the ULIP scheme, long-term capital gains of up to Rs 1.25 lakhs are exempt from tax. Only gains exceeding Rs 1.25 lakhs are taxable at 12.5%.
Which is a more flexible investment – ULIP vs mutual fund?
Mutual funds are more flexible than ULIPs. They offer higher liquidity, partial withdrawals, easier fund switching, and various investment options. ULIPs have limitations in liquidity, partial withdrawals, fund switching, and investment options. Mutual funds are more versatile than ULIPs in terms of flexibility and options.