I have now had a few people complaining to me - including my own mother - that relationship managers in HDFC Bank have been strongly selling HDFC Crest, a life insurance product, while they were looking for a fixed deposit. Latest in the list is someone who is above 60, and who has had some post retirement income that needed to be safely placed.
This is very very disconcerting, because this product is not at all meant for a person of that profile, including my mother. I have a detailed video (published in 2011!) of why this product is unsuitable for anyone looking for an investment avenue for their money.
Let me now elaborate about why I think it is a bad idea to buy HDFC SL Crest. (First, note: all details taken from their brochure or online calculators)
- You pay 50K or more premium for five years
- You wait the remaining 5 years for a total of 10 years
- You can either get a "guaranteed" Highest NAV in the first 7 years or
- Choose one of the regular non-guaranteed plans
- Insurance 10x to 20x Sum assured
- Direct Costs of 4% of premium (years 1 and 2), 3% (year 3) and then 2% (years 4 and 5)
- Extras: 0.31% per month (of premium) as Admin charges
- Management fee of 1.35% (plus 0.5% if you take the guaranteed plan)
Lower Returns with Comparable More Flexible Options
Let's look at illustrations for three cases:
- HDFC Crest with the "Guarantee"
- HDFC Crest without a guarantee
- A mutual fund with 2% management fee, with a term plan of 10 lakhs (35 year old - I even took HDFC's own online term plan that offers 10.65 lakh cover for Rs. 2,002 per year)
Assumptions: 10% return on whatever's in the fund.
(Click on any of the images to get a larger view)
First, with the guarantee, the returns are substandard: (what is below is the output of their own calculator - so while my formulas show even lower returns, I presume theirs is correct and have displayed that instead)
(Technical note: the "yield" is an internal rate of return. That is, what interest rate would take the same investment numbers and return the exact end value we have in the illustration. This is done in Excel using XIRR)
Without the guarantee, things get slightly better:
The return goes up to 5.88%. Note that I don't include tax benefits in this case, and I will elaborate later about them. The taxes one saves are elusive, and one might be able to get tax advantages in alternative investments (ELSS mutual funds or long term fixed deposits).
Now let's take the online term plan for Rs. 2002 per year, and put the remaining money into a mutual fund instead. We'll have to pay out the term plan for the full tenure. But the returns are much better:
This is substantially better (even better than the one in the video) in terms of returns. It is more than Rs. 30,000 higher than HDFC Crest's returns in a similar setting.
Also look at the Total Death Benefit column. If you die your family will get the full term plan sum (Rs. 10 lakhs) plus whatever is accumulated in the mutual fund. This column is substantially greater than the corresponding numbers in the HDFC Crest cases. This also gives you flexibility - if you aren't in for the insurance (like those above the age of 60 with no dependants) you should ignore the insurance completely. (The return magnifies)
The other huge advantage of an MF + Term plan is liquidity. The maximum lock in for mutual funds is 3 years after each investment (ELSS) with no restrictions on money redeemed afterwards. In HDFC Crest, you're locked in for five years, but even after that you can't withdraw, in total, more than 3x your original premium. (In the above example, you would be limited to total withdrawals of Rs. 150,000).
Also, if you consider that this is being sold to retired people, their alternative is to buy a simple fixed deposit for 10 years. Current rates at private banks are 8.25%, and one public bank offers 9% (PNB). Let me take 8.25% and assume we can get it for five more years, and assume a tax rate of 20% (most people seem to come in that tax bracket anyhow)
There is reinvestment risk in this option, i.e. the interest rate in subsequent years may not be as high. Also, liquidity is a problem, since you can't exit a fixed deposit without a penalty.
I just wanted to illustrate these options - while you might think these are not directly comparable for one reason or the other, the point remains that to most people that are investing, these are usable options. In fact, to two people I know who are beyond the age of 60, suggesting HDFC Crest is ridiculous as they can lock in nearly 10% on a Fixed Deposit for 10 years, plus they have no use for the insurance piece.
Also, these comparisons are tax neutral since equity gains and insurance returns are tax free, and all options above get the 80(C) deductions as well.
While this is not really being sold as an insurance plan, insurance is touted as one of the benefits. But let's look at primarily the insurance part and see what's wrong.
1. You get only 10x to 20x the annual premium as insurance ("Sum Assured").
2. You get the GREATER of the fund value or the Sum Assured.
If you pay Rs. 50,000 per year, your insurance cover ranges from Rs. 5 lakh to Rs. 10 lakh. Every premium you pay actually reduces the real insured amount. After two years, you would have paid Rs. 1 lakh in premium, so the insurance company is on the hock for Rs. 1 lakh less, and so on.
In the images above I demonstrate how, by taking a mutual fund plus term plan, you would actually have a much higher sum assured. In fact, if you die in year 9, your family would only get Rs. 10,00,000 (1 million, or 10 lakhs) with HDFC Crest. But with the MF plus term plan option, they would get more than 14,00,000 (1.4 million or 14 lakhs). That's a 40% better alternative.
(Apart from the fact that if you didn't die, you'd have made more money as well)
For people above the age of 60 with kids well settled, there is hardly a need for insurance (especially if their spouse is no longer alive).
The guarantee is, for the most part, useless.
They say they'll give you a minimum of Rs. 15 per unit (current rates are around Rs. 10 per unit) or the highest NAV in the first seven years. The seven years is important: you get your guaranteed money only after ten years, but the highest NAV is only for the first seven.
First, let's see how anyone can guarantee this kind of return. It's not coming from someone else's pocket. No one's that benevolent. Every guarantee has a cost and a structure to achieve it.
Manish from Jagoinvestor explains how it's done. The concepts are of Constant Proportion Portfolio Insurance (CPPI) and Dynamic Hedging, but what happens in India is mostly a shift of money between debt and equity. As the "guaranteed" NAV gets higher and higher, more money gets locked into debt in order to make the guarantee.
Next, let's look at the Rs. 15 guarantee. We all assume we buy at Rs. 10 per unit. That's a 50% return!
Stop. 50% return over ten years is chicken-droppings.
If you gave me Rs. 50,000 every year for five years, you've given me Rs. 250,000. Can I give you back a 50% return, i.e. 375,000 back in 10 years?
The return I need to give you is a mere 5.2% per year, compounded. (Remember, 10 year government bonds are currently yielding 8.2%) Of course, because you will actually buy more units at a higher NAV (say Rs. 11 in year 2, Rs. 12 in year 3 etc.) the actually guaranteed return comes down some more.
The second option - the "highest" NAV sounds very pleasing but it's fleeting. Managers will move money into debt as the equity portion rises, in order for them to be able to make the guarantee. You are in effect moving money out of the "winners" and locking the return for the future. That also means if the stock market rises over time, you are likely to miss most of the bus, as the manager try to lock in the existing NAV returns for the rest of the time. We'll see this play out when we actually analyze performance.
The guarantee is an overstated piece in this pie, and should not get much attention. Plus, there is needless confusion by weasel-clauses like pay for five years, get money after ten years, but guarantee applies only on seven years etc.
The cost of every instalment is quite high, it turns out.
Comparable costs for a mutual fund are 0% today.
Mutual funds tend to have a higher asset management fee. I've assumed it will be around 2% (versus Crest's 1.35%). However, HDFC Taxsaver, which is run by HDFC Mutual Fund (a fund house I respect very much) charges just 1.85% according to Value Research Online.
Elusive Tax Benefits
There are two tax benefits to insurance:
a) That the total sum returned is tax free, including all gains and partial withdrawals and early surrenders.
b) That the amount invested is exempt from tax under section 80(C).
For a) the concept applies in many other cases as well. Equity returns are also tax free if held for over a year. Investing even in bond funds or mutual funds can give you a tax value of zero; because of indexation benefits. (Read this article for how that works) You could invest even in Public Provident Funds to get tax free returns.
For b), I throw you the assertion that for the most part, 80(C) tends to be covered by something else. 80(C) is a cumulative tax deduction, so you can spend or invest in various heads and the total deduction per year is Rs. 100,000. The other heads that apply are:
- Children's education fees
- Employee PF deducted by your company
- Public Provident Fund
- National Savings Certificates
- Repayment of the principal part of a home loan
- Equity Linked Mutual Funds (ELSS)
Just my child's education costs and the PPF that I invest in add up to the 100K per year deduction. Even if people had none of the others, better than insurance would be to invest in a PPF account (Rs. 100K per year) which is an 8.5% return, tax free, and backed by the government.
Finally, these tax gains are current. We've seen amendments that make tax saving methods vanish, and it might well be the case that later, tax structures change and make these investments irrelevant. All else being equal, taxes should not tip the scales in any direction.
Substandard Actual Returns
Lastly, let's come to how the funds have actually performed in the last two years or so. (since their inception).
Let's compare the plan's NAV with that of compable mutual funds. For a mutual fund investor, the NAV is the real return over time, since the number of units bought changes only at repurchases or withdrawals. For an insurance buyer, the NAV is only one part of the story; even when there is no purchase or sale transaction, the insurers keep deducting units as some charge or the other (mortality, policy admin, etc.) So, an NAV comparison will still overstate the return of an insurance buyer, but it'll be close to what the mutual fund investor sees.
Comparable funds like the Franklin Bluechip (a mutual fund) with HDFC Crest's Bluechip (a non-guaranteed fund) provides one perspective: the Crest's funds are still struggling to come on par with mutual fund returns.
What about the guaranteed fund? It still is at the NAV of 10.17, with the "highest" NAV in the last two years being 10.34, achieved in Jan 2011. (A fixed deposit would be more than 15% up in this time, making it a comparable NAV of 11.5)
Of course, we'll only know about the guarantee when seven years have passed and the CPPI has had time to play out the full cycle; but it's evident that it doesn't really track the returns of the Nifty.
I don't like to diss funds of any sort. They're doing their job. But most ULIPs are confusing to people, almost by design. HDFC Crest is no different and it takes a while, even for an experienced hand, to understand the fact that there are far better alternatives. When such ULIPs are sold to widows and retired people, without apparent care about whether it is useful, it's important that we bring the reality to everyone's notice.
I understand that the HDFC folks are not going to be happy about this - not the bank, and not the insurance company. However, I hope they strengthen their practices and curb attempts by representatives to hard-sell this product, and stand for the cause of the small depositor.
And remember: HDFC Crest is NOT a fixed deposit.
It is sold by a bank representative who's only an agent. The real company behind it is HDFC Insurance. This is a different company that shares four letters with the bank. The parent shareholder of HDFC Bank and HDFC Insurance are the same, but the bank is the one you want to deposit your money with, not the insurance company. (They are not the same. Banks are safer for depositors.)
Would deeply appreciate your comments. This is a long post, and it was supposed to be one.