ULIP and SIP: Know the Difference

We’re all wiser than the previous generations. We’ve learned from all the financial mistakes they made. But choosing the right financial instrument can make all the difference in the world. Two common options that we are advised to choose from are Unit Linked Insurance Plans (ULIPs) and Systematic Investment Plans (SIPs). While both offer opportunities for wealth creation, it’s important to know the difference between the two. 

You must consider these few factors to differentiate between the two. Consider your risk appetite, financial goals, investment horizon, and need for insurance when choosing an investment plan. And there’s more! Read on to know the difference between ULIP and SIP, their benefits, risks, and tax implications, and make an informed choice. 

What is a ULIP? 

A Unit Linked Insurance Plan (ULIP) is a hybrid financial product that combines investment and life insurance. When you invest in a ULIP, part of your premium goes to life insurance coverage, and the rest goes to investments in market-linked funds such as equities, debt, or a mix of both. 

Features & Benefits of ULIP 

• Dual Benefit: ULIPs offer both investment and insurance, ensuring your family is financially secure while your investments grow. This dual nature makes them a compelling choice for individuals who want both wealth accumulation and financial security in one package. 
• Flexibility: Investors have the ability to allocate their funds across equity, debt, or hybrid investment options. ULIPs also allow switching between funds based on changing market conditions or evolving financial goals, enabling better portfolio management. 
• Lock-in Period: ULIPs have a mandatory five-year lock-in period, which means you develop investment discipline and long-term financial planning. This approach helps investors stay committed to their financial goals. 
• Tax Benefits: ULIP premiums are eligible for tax deductions under Section 80C, up to INR 1.5 lakh per annum. The maturity proceeds may be tax-free under Section 10(10D), provided the premium does not exceed 10% of the sum assured.
• Wealth Creation with Protection: ULIPs are a long-term financial tool that provides an opportunity to grow wealth while safeguarding the financial future of your dependents. The tag team of investment growth and insurance cover makes ULIPs particularly really lucrative for people with dependents or financial liabilities.

ULIPs work well for long-term investors who want life cover along with wealth creation.

What is an SIP? 

A Systematic Investment Plan (SIP) is a disciplined way to invest a fixed amount of money in mutual funds regularly. 

SIPs are ideal for investors who want to build wealth over time without being locked into an insurance product.

Features & Benefits of SIP 

• Pure Investment: Unlike ULIPs, SIPs focus entirely on wealth creation with no insurance component. 
• Flexibility: You can start, stop, or modify your SIP contributions anytime. 
• No Lock-in Period: Most mutual fund SIPs do not have a lock-in, except for Equity Linked Savings Schemes (ELSS), which come with a three-year lock-in. 
• Compounding Growth: Since SIPs invest regularly, they benefit from compounding and rupee cost averaging, which reduces risk over time.
• SIPs benefit from the power of compounding, where returns are reinvested to generate additional returns over time. The longer you stay invested, the greater the wealth accumulation due to exponential growth. 
• Rupee Cost Averaging: SIPs take advantage of rupee cost averaging, where you purchase more units when the prices are down and fewer when prices rise. This minimises the impact of market volatility and reduces the risk of investing at a market peak. 
• Liquidity: Unlike ULIPs, SIPs offer high liquidity, allowing investors to redeem their mutual fund units whenever needed. So, SIPs are good for people who may require their funds without a mandatory lock-in period (except for ELSS funds).
• Lower Costs: SIPs generally have lower associated charges compared to ULIPs, which include mortality charges, fund management fees, and premium allocation costs. With minimal entry and exit charges, SIPs are a cost-effective way to participate in the market. 
• Tax Efficiency: SIPs in Equity Linked Savings Schemes (ELSS) qualify for tax deductions under Section 80C, offering up to INR 1.5 lakh in deductions annually. However, gains from SIPs in equity mutual funds are subject to Long-Term Capital Gains (LTCG) tax at 10% on gains above INR 1 lakh per financial year. 

Features & Benefits of SIP 

• Rupee Cost Averaging: SIPs take advantage of rupee cost averaging, where you purchase more units when the prices are down and fewer when prices rise. This minimises the impact of market volatility and reduces the risk of investing at a market peak. 
• Compounding Growth: SIPs benefit from the power of compounding, where returns are reinvested to generate additional returns over time. The longer you stay invested, the greater the wealth accumulation due to exponential growth. 
• Higher Liquidity: Unlike ULIPs, SIPs offer high liquidity, allowing investors to redeem their mutual fund units whenever needed. So, SIPs are good for people who may require their funds without a mandatory lock-in period (except for ELSS funds). 
• Lower Costs: SIPs generally have lower associated charges compared to ULIPs, which include mortality charges, fund management fees, and premium allocation costs. With minimal entry and exit charges, SIPs are a cost-effective way to participate in the market. 
• Tax Efficiency: SIPs in Equity Linked Savings Schemes (ELSS) qualify for tax deductions under Section 80C, offering up to INR 1.5 lakh in deductions annually. However, gains from SIPs in equity mutual funds are subject to Long-Term Capital Gains (LTCG) tax at 10% on gains above INR 1 lakh per financial year.

Comparative Analysis – SIP or ULIP: Which is better 

If you seek insurance and investment, a ULIP is a better choice. If you only want wealth creation, then SIP is the way to go. 

How to Calculate Returns on ULIP and SIP? 

ULIP returns can be calculated based on these factors:

• ULIP returns depend on market performance and charges deducted, including fund management and mortality charges 
• The Net Asset Value (NAV) method helps track ULIP growth 
• Formula: Returns (%) = [(Current NAV - Initial NAV)/Initial NAV] × 100 
• Example: If the NAV increases from ₹10 to ₹15 in five years, your returns are 50% 
• Some ULIP calculators also consider premium allocation and switching charges to provide a more accurate return estimate 

SIP Returns Calculation

• SIP returns are measured using XIRR (Extended Internal Rate of Return), which accounts for periodic investments over time 
• The formula considers multiple cash flows and their timing, making it more precise than simple return calculations 
• SIP calculators use past performance data to estimate future returns based on investment duration, amount, and market trends 

If you invest INR 5,000 per month for ten years and your final corpus is ₹12 lakh, XIRR will provide the actual annualised return percentage. Compounded growth over time makes SIPs a powerful wealth-building tool. 

Tax Benefits and Implications 

ULIP 

• Tax-free maturity benefits under Section 10(10D), provided the premium is within prescribed limits. 
• Premiums qualify for tax deduction under Section 80C, reducing taxable income up to ₹1.5 lakh per annum. 
• Partial withdrawals made after the five-year lock-in period are tax-free if they adhere to prescribed conditions, ensuring liquidity without tax liability. 
• The death benefits received by the nominee are completely tax-free under Section 10(10D), providing financial security to the insured’s family. 

SIP 

• Equity mutual funds attract a Long-Term Capital Gains (LTCG) tax of 10% on gains exceeding ₹1 lakh per financial year, impacting high-value investors. 
• Short-Term Capital Gains (STCG) tax of 15% applies to withdrawals made within one year, which is higher than long-term tax rates. 
• ELSS mutual funds provide tax deduction under Section 80C, offering up to INR 1.5 lakh in tax-saving benefits while also generating potential market-linked returns. 
• Dividends received from mutual funds are taxable as per the investor’s income tax slab, unlike ULIPs, where dividends are reinvested without tax implications. 

SIP vs ULIP – Which One Should You Choose? 

Deciding between ULIP and SIP requires careful consideration of your financial goals, risk appetite, and investment needs. Ask yourself these key questions to make a decision: 

1. Do You Need Insurance Coverage? 

If you require life insurance coverage along with investment growth, ULIP is the better option. It ensures financial security for your family while your investments grow over time. On the other hand, if you already have adequate insurance coverage through a term plan, an SIP may be more suitable as it focuses purely on wealth creation without the added costs of insurance. 

2. What Level of Flexibility Do You Prefer? 

SIPs offer unmatched flexibility — you can increase, decrease, or stop your investments anytime. You also have the option to switch between different mutual funds based on market conditions. ULIPs, on the other hand, come with a five-year lock-in period, which limits your ability to access funds freely. 

3. How Important is Liquidity for You? 

SIPs are highly liquid. You can redeem your investment anytime (except ELSS). ULIPs require a minimum lock-in of five years, restricting withdrawals before that period. If you anticipate needing access to funds in the short term, SIP is the better choice. 

4. What Are Your Long-Term Investment Goals? 

If your goal is long-term wealth accumulation (10+ years), both ULIP and SIP can work. However, SIPs generally have fewer charges, making them more cost-effective over extended investment periods. ULIPs come with fund management charges, mortality charges, and other administrative costs that can eat into returns. 

5. How Do You Want to Manage Taxes? 

• ULIPs offer tax-free maturity benefits under Section 10(10D) (subject to premium limits) and tax deductions on premiums under Section 80C. This is a big benefit of investing in ULIPS. 
• SIPs in equity funds are subject to LTCG tax (10%) on gains exceeding INR 1 lakh per financial year. However, ELSS SIPs qualify for tax deductions under Section 80C, making them a tax-efficient investment choice. 

In a nutshell: 

• If you need insurance + investment, choose ULIP 
• If you prioritise flexibility, liquidity, and cost-effectiveness, SIP is the better choice 
• For long-term wealth building with fewer charges, SIPs outperform ULIPs 
• For tax efficiency and life cover, ULIPs can be beneficial 

Conclusion 

Both ULIPs and SIPs have their place in an investor’s portfolio. If you want a combination of insurance and investment, ULIP is a good choice. If you prefer flexibility, low costs, and pure investment, SIP is the way forward. Understanding the difference between ULIP and SIP ensures you make the right choice based on your financial goals. 

Want to explore the best ULIP or SIP plans? Compare and buy ULIP online today! 

FAQs 

Is ULIP riskier than SIP? 

ULIPs and SIPs are both market-linked investments, so the risk factors are not significantly different. But, ULIPs have an added security cover along with higher costs, limited liquidity, and restricted fund switches. SIPs offer lower costs, greater flexibility, and easier withdrawals, but no cover for your dependants. 

SIPs are generally less risky due to lower costs, greater liquidity, and flexibility. ULIPs, with added insurance benefits, come with higher charges and a long lock-in period, making them riskier from an investment standpoint. 

Which has a shorter lock-in period, ULIP or SIP? 

Most types of SIPs generally have a shorter lock-in period compared to ULIPs.  

Can I withdraw money from ULIP or SIP anytime? 

ULIPs have a mandatory 5-year lock-in period, allowing partial withdrawals only after this term. SIPs offer greater flexibility, permitting withdrawals at any time, except for ELSS funds, which have a 3-year lock-in.