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Charts & Analysis

LIC's Jeevan Aastha: Look before you leap

An eye opener on LIC’s Jeevan Aastha by Sandeep Shanbhag in DNA:

It is in school that we are taught the basic difference between simple and compound interest. We are taught the fundamental principle that compound interest and not simple interest is the effective rate of return on any investment.

However, it increasingly seems to me that this is a lesson that is either not learnt well or is forgotten way too early. How else does one explain people falling over each other to invest in what essentially is a fixed deposit that, depending upon the age of the investor, offers at best 7.32% per annum (p.a.) and at worst a 4.32% p.a. return?

Yes, I am talking of LIC’s Jeevan Aastha, a policy that seems to have taken the investor community by storm. The simple FD like structure gets complicated on account of the investment being combined with insurance and the usage of differing terminologies such as Basic Sum Assured, Maturity Sum Assured, Guaranteed Additions, Loyalty Additions, Death Benefit, Maturity Benefit and so on.

Let’s first take a case where the investor remains healthy, alive and kicking throughout the term of the plan (5 or 10 years as the case may be). The interest or return on investment as mentioned by LIC is Rs 100 per thousand of Maturity Sum Assured (MSA) per year for a policy of 10 years and Rs 90 per thousand MSA per year for a policy of 5 years term where the MSA is one-sixth of the Basic Sum Assured (BSA).
Please note the significance of the words — Rs 100 per thousand per year. The usage (Rs 100 per thousand) translates into Rs 10 per hundred or 10% per year.

Many unethical, unscrupulous agents are taking this rate of 10% per year and selling Jeevan Aastha as a product that offers 10% p.a tax-free return. And in the current mood of risk aversion, the public is lapping it up. However, note that the 10% is flat per year on a simple basis, meaning there is no interest on interest element (which by the way is the definition of compound interest). Instead the investor gets a flat 10% per year.

In terms of an example, a 30-year-old investor who invests Rs 24,810 will receive Rs 50,000 upon maturity at the end of 10 years, translating into a return of 7.26%. The accompanying table lists the age-wise maximum and minimum potential return on this plan.

Read it all, there’s more. Jeevan Aastha is a heavily advertised “guaranteed” plan by LIC, a single-premium endowment plan with a term of 5 or 10 years. The problem is the huge misrepresentation by agents and even by LIC itself where it hides the real picture by using weasel words.

So:

  • They say 10% guaranteed but it’s not compounded. A 48K investment as shown in their own illustration, gives you 100K after 10 years. That’s about 7.5% compounded, much lesser than the 10% claim.
  • You might think – hey, I can take it for one year and get out! The surrender value after a year is 90% of the policy – meaning you have an “exit load” of 10%, regardless of when you exit. That negates any early exit gains.
  • The Sum Assured Scam: In the first year, your S.A. is 6x your premium. The Second year onwards it’s only the guaranteed amount (typically 1.5x to 2x your premium). That’s totally useless.
  • The Sum Assured bump-up in year 1 may be for tax benefits, which only apply if you pay less than 20% of the S.A. as premium.
  • LIC has the advantage that you get a tax saving in year 1 and even the interest payments are tax free (though not compounded). On the other hand, bank fixed deposits give you no tax saving on the investment (other than the 5 year FDs), and none on the interest either.
  • Alternative options: If you want the tax saving: PPF, where returns are tax free. If you already have 80C covered by either other insurance, a housing loan, EPF or other such investments, you needn’t use a tax saving plan; then, you can get 8.29% from NABARD bonds (mentioned by Shanbhag) post tax.
  • If FMPs weren’t all this shady you could invest in them for a more tax efficient return (capital gain at 20%, indexed, which is very little real tax). But research may reveal some good FMPs still exist. Other capital secured plans from mutual funds are also attractive.
  • Note that the 10% exit load kills any real value in the plan. If in the middle of the term you exit, you get next to nothing on the return end.

There might be more lurking out there. I do not recommend ANY life insurance policy for investment and would opt only for a pure insurance (term) plan. They all seem to be leeches, hiding the real return under weasel terms and hyping what should not be. At this point, the rule of thumb is: avoid anything that sounds good.

  • Anonymous says:

    >The 8.29% return assumes the same tax policies will prevail after 10 years. Is this correct?

    I prefer FLoating Rate mutual funds. My understanding is that I have the same Capital Gains structure but if they change, I can cash out before the next Financial Year starts. Can you comment on this please?

  • Deepak Shenoy says:

    >Anon: yes, that’s assuming the cap gains structure remains constant (but that applies for everything).

    If they change cap gains and you exit a floating rate fund before a year, you pay a max of 33.99% tax (it’s short term cap gains). You may get an advantage if they change things after two years, but then you still have to invest somewhere for eight more years, and that will involve the same kind of tax.

    it’s only if they apply subjective taxation like NABARD bonds get taxed but nothing else, that you benefit. Or, if they say there are certain new bonds that have no tax on interest or such.

    That risk exists with any instrument you purchase now, for a 10 year horizon.

  • Anonymous says:

    >While I agree that LIC has not stated in clear terms that its 'simple' interest, the 7.32% post tax compounded return is still good if you are a highest bracket tax payer who has exhausted 80C & PPF limits(and will remain so next 10 years). You also get a life cover (though costly)

  • siddharth says:

    >Deepak you should have listened to the metlife manager who tried to convinence for the 20% returns every year in metlife plans. same endowment insurance.

    lol

    pinch me please.

  • Siddharth says:

    >”convinence”

    convince- holds correct

    gee, early morning half wakie typo. such a shame tho.
    cheers

  • Yogi says:

    >Interesting findings..I like the suggestion of pure insurance plan without investment linkage.

  • Navnnit says:

    >Hi Deepak,

    Can you pls. comment on Birla Sunlife’s “Dreamz Plan” as it has enhanced cover feature to the tune of 23 to 30 times of Premium value, it is comparatively cheaper than any Term Plan and you get your half money back @6% rate of return on survival. I am planning to buy this but before I request you to comment on it.
    Thanks in advance.
    Best regards,
    Navnit
    navnit_t@yahoo.com

  • tharian says:

    >you cannot jumb between the plans when comparing… or you should admit this is the best when u compare all the features like return, liquidity, tax benifift… you are just confusing people…nothing else..

  • Deepak Shenoy says:

    >Tharian: Another advisor, welcome. I guess you'd like to not refute the points and instead say it's the best. It's not, it's FAR worse than a comparative term plan+MF at this point.