You will be able to name the charges in an ILP that a unit trust does not have.
Wei Ling asks her adviser friend for the product summary of the ILP they discussed, and it arrives as a PDF that night. She is used to unit trust documents by now, after modules 1 and 2. She expected a sales charge and a management fee. She finds a page of charges with names she has never seen, and some that change by year.
This lesson walks through the charges that set an ILP apart from a unit trust. All figures are examples. A real policy's product summary sets out its own, and policies differ a lot from one another.
In a unit trust, the sales charge comes off each purchase, as in lesson 2.1, One-off charges: buying, switching and selling. Many ILPs use a different device: the premium allocation rate, the percentage of each premium that is actually used to buy units. The rest goes to the insurer, largely to pay for distribution costs, including the adviser's commission.
In some policies the allocation is low in the first years and rises later. Take an example policy with premiums of S$3,600 a year, an allocation rate of 20% in year one, 50% in year two and 100% from year three. In year one, S$720 buys units. In year two, S$1,800. In year three, all S$3,600. Over the first three years, S$10,800 is paid in and S$6,120 buys units. Some policies instead allocate 100% or more from the start and recover their costs through other charges later. You cannot tell which design a policy uses without reading the table.
Once units are bought, a range of charges can apply together. These are the usual ones, though a given policy may name them differently or not have all of them.
A policy fee or administration charge, often a fixed monthly amount or a percentage, taken by cancelling units. The insurance charge, sometimes called the cost of insurance, which pays for the cover and rises with age, as lesson 5.1, An ILP is insurance and funds in one policy, explained. A charge on the account value, sometimes in the early years only, sometimes for the life of the policy. The sub-fund management fees, which come out of the sub-fund prices just as a unit trust's management fee comes out of its NAV, as in lesson 2.2, Yearly charges: management fee, expense ratio and trailer fee. Charges for riders, extra cover added to the policy, and for switching sub-funds beyond any free switches.
A unit trust has the last two kinds of cost in its own form, a management fee and possibly a switching charge. The policy fee, the insurance charge, the allocation rate and the account value charge are particular to the policy.
A surrender charge is a charge for ending the policy early, deducted from the value you get back. In many ILPs it is highest in the first years and falls to nothing after a set period. So if you surrender in year three, you might get back much less than your account value. Combined with a low premium allocation in early years, the surrender value in the first years can be far below the premiums you paid.
That matters because many people end policies earlier than they planned, after a job change, a new baby or a home purchase. A unit trust can be sold at any dealing day with, at most, a redemption charge. An ILP may cost much more to leave in its early years.
Some ILPs offer bonus units, sometimes called loyalty bonuses or welcome bonuses: extra units credited at set points, for example after a number of years, or as a percentage of premiums. They can look generous in an illustration.
Read how a bonus is earned and how it is lost. Common conditions include paying every premium on time, taking no premium holiday, making no partial withdrawals, and keeping the policy to a stated year. A bonus may also be clawed back if you surrender early. Sometimes the bonus partly returns charges that were taken earlier in the policy's life. In either case, a bonus is part of the cost picture, not a gift on top of it.
Wei Ling's next step is a list. Every charge in the product summary goes down, with its rate and when it applies. Then she marks the ones a unit trust would not have. Her list for this example policy had eight lines, and five of them were charges she would never meet in a unit trust.
You will make the same list in the activity below, from a sample ILP product summary.
From a sample ILP product summary, list every charge and note which ones a unit trust would not have.
Junxiong-WFG Organisation is an authorised representative of AIA Financial Advisers Private Limited (Reg. No. 201715016G).