This is the best investment plan for your retirement.
At least, this is what was told to me by the bank relationship manager when he called up. I asked him to forward an email with the details.
The email subject was enticing – Ashish’s Freedom Retirement. I was so happy to know that someone is thinking about my goal. But there is more to it than meets the eye.
I opened the document and it read like this:
Dear Ashish Kumar
With the rising life expectancy which is expected to stretch to late 70’s or early 80’s, it’s time to redefine retirement as a period for personal reinvention.
It’s important to look back at the first quarter of your life and evaluate it. Harvest that wisdom and use it for the next chapters of your life by early savings to enjoy your golden years! Life after retirement is not only about money, medicine and health but also leisure for those of you who want to spend their retirement golfing, gardening, and going on trips, you can now do so with ease.
With this thought we introduce to you XYZ Life Insurance Freedom, a Non – Linked Participating Endowment plan which will enable you to find a balance in your financial portfolio just as you would create a balance in your life’s portfolio. This plan provides you with the Guaranteed Additions to enhance your retirement corpus. You may choose from optional rider further enhancing your plan.
What more? Enjoy growth of your corpus with addition of Compound Reversionary Bonus, thus ensuring an independent life. As they say, “You can be young without money, but you can’t be old without it” so start early and look forward to enjoy unparalleled freedom to enjoy the best years of your life!
Wise saying indeed. It perfectly described the life I was looking for.
This truly looked to be an investment plan that was difficult to ignore. As I read further, the proposal listed some of the key features:
- Guaranteed Additions @10% per annum of annualised premium throughout the premium payment term
- Grow your Retirement corpus through accumulation of Compounded Bonuses
- Choose from two Retirement plan Options: Option 1: 55 years or Option 2: 60 years
- Optional Riders for added protection
- Tax benefits u/s 80C & 10(10D) of the Income-Tax Act, 1961
Guaranteed additions and Bonuses, that too compounded. Did I read it right?
The agent had told me, as also was mentioned in the document, that I had to pay a premium of Rs. 115,000 approx. every year for 15 years. In 25 years, I could receive a guaranteed amount of Rs. 31.6 lakhs, and if bonuses are added, this could go upto Rs. 45 lakhs.
Not to mention there was a insurance cover of Rs. 15 lakhs too, which my family would get in case something were to happen to me.
In my mind, I had almost decided to invest in this ‘cutting-edge’ investment plan.
How much safe and assured returns one could get?
Ashish took a pause, then a deep breath and asked me expectantly, “What do you think?”
The myth of the best investment plan
“Ashish, this is an endowment insurance plan. Experience suggests that they don’t even beat inflation. You have better options to invest in.” I presented my argument.
“I know, my friend! But this is something different. There are guaranteed additions at 10% plus the bonuses. I believe this is better than a FD or even PPF for that matter. You see that the maturity amount is also tax free. It just seems perfect.”
Emotions were running high. The only thing that could possibly counter these emotions was logic. So I said, “Ok. I hear you. Let’s do the numbers.”
“To summarise, this is what the ‘cutting-edge’, perfect policy proposal says:
- Pay premium of Rs. 115,000 approx. every year till 15 years. This is your cash outflow.
- At the end of 25 years, you will receive minimum guaranteed of Rs. 31.6 lakhs. This could, depending on any bonuses, go upto Rs. 45 lakhs. This is your likely cash inflow.
Let’s calculate what your expected return is in this investment plan.
There is a simple formula XIRR that you can use in any spreadsheet tool. It uses the cash outflows and inflows along with the dates of the flows to determine your actual rate of return. We will keep the dates as the first day of every year.
Based on the inputs that we have, here is what the calculation reveals.
If you receive only the guaranteed amount of Rs. 31.6 lakhs, your annualised return will be 3.08%.
If you receive the higher amount of Rs. 45 lakhs, your annualised return will be 5.08%.”
Are you serious? But what about that 10% guaranteed return? Ashish was shocked!
“Yes, it is there. But not the way you think. The 10% guaranteed additions are calculated only on the premium amount (net of taxes). So in the first year, it is 10% of Rs. 1,10,000 approx. that is Rs. 11,000, in year 5, it is Rs. 55,000 approx of 10% of Rs. 5,50,000 and in year 15, it is Rs. 1,60,000 approx. or 10% of Rs. 16 lac premium that you have paid so far.
NOTE: The guaranteed additions in a life insurance policy are calculated only on the premium amount (net of taxes) and not on the investment corpus.
As you would realise, the guaranteed returns are NOT calculated on the year end value of the investment, but only on the premium amount you pay. The power of compounding is not working for you in this case.”
“Oh God! How could I fall for this? This is going to take money out of my pocket. It’s not even covering for inflation.” Ashish was trying to get over his emotions and accept the logic.
“Let me give you a different perspective.” I continued.
“If you were to invest the same amount for the same period of time in a PPF account, which was to give you an 8% assured return every year, you would have, at the end of 25 years, about Rs. 67.4 lakhs. Though we don’t know today, if PPF would continue for that long a time.
Let’s take another example of an investment plan. If you were to invest the same amount in equity mutual funds that would deliver say a 10% average expected return (after undergoing all the ups and downs), then at the end of 25 years you would likely have an amount close to Rs.95 lakhs.”
I turned the laptop screen with the calculations towards Ashish.
Growth comparison under various investment plan options
He saw and nodded. “I get what you are saying. I think I just got carried away with the myth of the best investment plan with all that guaranteed return and bonus drama. It makes absolute sense to do the numbers and see yourself what the real deal is.” Ashish looked relieved.
He decided to put the investment plan aka the endowment policy proposal in the trash bin and go for a simpler investment option.
What about you?