SINGAPORE: Investment-Linked Policies (ILPs) are becoming increasingly popular as a unique blend of insurance and investment. They offer not only life coverage but also potential growth for your finances. However, the complexity involved in managing these policies can lead to confusion, especially as market dynamics and personal financial needs evolve. Influential investor Warren Buffett once cautioned, “Never invest in a business you cannot understand.” With this in mind, should you pursue an ILP, or if you already have one, how do you navigate its intricacies?

In a recent discussion featured on a popular financial YouTube channel, Loo Cheng Chuan, a Singaporean technopreneur and founder of the 1M65 movement, explored the details surrounding ILPs with esteemed guests Mr. Eddy Cheong, CEO of insurance provider Havend, and Mr. Christopher Tan, head of Providend Ltd, Singapore’s pioneering fee-only wealth advisory firm.

Understanding ILP Options

Mr. Cheong delineated two primary types of ILPs: protection-based ILPs, which focus on life coverage, and investment-only ILPs, designed primarily for capital growth. He compared an ILP to a whole life insurance plan that builds cash value. However, unlike traditional plans, ILPs do not guarantee cash value growth since the invested funds typically go into high-risk unit trusts, requiring the policyholder to navigate their investment choices.

“If you enter an ILP, you need to fully understand the implications since there is no guaranteed growth of cash value,” Mr. Cheong cautioned. He pointed out that as insurance costs increase over time, if the cash value does not grow adequately, your policy risks lapsing. In extreme cases, insufficient cash value combined with rising costs can render the policy effectively void.

Mr. Cheong explained that while insurance providers guarantee the sum assured when no units are withdrawn, this benefit is voided if withdrawals are made. The guarantees also come with a shelf life, which may not account for long-term needs.

The Case Against ILPs

Highlighting the downsides, Mr. Tan argued that protection-based ILPs often replicate the effects of combining term insurance with a unit trust, which might not be suitable for serious investors. He stressed that for those primarily focused on investing, it is often more beneficial to acquire term insurance separately and seek low-cost index funds or alternative investment vehicles with lower fees.

Typically, ILPs carry high management fees, often ranging from 1.5% to 1.9% for equity funds, as many are actively managed. Limiting choices to approximately 20 funds within an ILP can trap investors, particularly when there are cheaper and more flexible investment options available in the market.

Mr. Cheong further elaborated on investment ILPs, stating that they usually provide minimal protection—sometimes as low as 1%—against life claims. This means that in the event of the policyholder's death, the beneficiary would only receive the cash value of the account plus a mere 1% more.

“If your account value drops from S$110,000 to S$100,000 at the time of your death, your family would receive just S$101,000,” he explained, emphasizing that the primary function of these policies is investment rather than providing extensive life coverage.

Both experts concluded that ILPs are often not the best choice for serious investors. Mr. Tan went so far as to say, “I really think there is no place for ILP because I feel that there are other ways of doing it.”

What If You Already Hold an ILP? Tips for Existing Policyholders

For those who already own an ILP, here are actionable strategies from Mr. Cheong and Mr. Tan to maximize your investment:

1. **Reassess Your Coverage Needs**: Determine if lifelong coverage is truly necessary for your current or future financial goals. If not, you might consider other options.

2. **Repurpose Your Policy**: You can realign a whole life ILP for specific needs, such as medical coverage or critical illnesses, rather than keeping it as a traditional investment.

3. **Evaluate Health Status**: If in good health, you could explore transitioning to different coverage types. Conversely, those with health issues should look into transitioning to a paid-up model.

4. **Switch to Paid-Up Mode**: For individuals with pre-existing conditions, moving to a paid-up state can preserve coverage without the need for further premium payments.

5. **Transfer Ownership**: Instead of selling your ILP, consider gifting it to a family member who can assume responsibility for premium payments and eventually benefit from the policy's death benefit.

Mr. Tan reassures policyholders that owning an ILP is not an insurmountable problem. “It's not all doom and gloom. You can restructure it,” he emphasized, encouraging a proactive approach to financial management.

Final Thoughts

Navigating ILPs can be tricky, but understanding your options can empower you to make informed decisions. Whether you are contemplating the purchase of an ILP or already have one, becoming educated on the nuances can lead to better financial health and security. Don't let confusion lead to poor choices; stay informed and stay ahead!