Pension plans are intended to help people plan for their retirement. It is best that you invest in a Pension plan as early as possible in life. In fact you should start investing from the day you start earning. Investing early is important as it allows you to optimize the annual savings you need to make without really stretching to save. The later you start the more you would need to save annually and this can really be a stretch for you if the earnings are limited. But before you take a leap and invest in the best retirement plan, here are some facts you should know about pension plans in India.
1) How do pension plan work in India?
Pension plans in India have primarily two phases – accumulation phase and vesting phase. In the accumulation phase, the investor will pay annual premiums until he or she reaches the retirement age. Once the investor reaches the retirement age, the vesting phase begins. During the vesting phase, the retiree will be slowly distributed his retirement corpus as annuities. These annuities will be paid to the investor until his death or the death of the nominee.
2) You cannot withdraw your entire retirement corpus at a go when you retire
When you retire, you are not allowed to withdraw the entire accumulated retirement corpus. Only one third of the accumulated corpus can be withdrawn while the rest has to be taken as annuity. Annuities are nothing but monthly pay outs. Thus, if for some reason like medical illness or for a child’s marriage you need the entire sum it may not be possible.
As far as Annuity is concerned you have various options to choose from depending upon the amount of regular cash flows that you need and for how long you need cash flows post retirement.
3) Annuities are taxable
The contributions made to a pension plan are exempt under section 80CCC upto a maximum ceiling of 1 lakh. However, the withdrawals are not tax free. This aspect is often criticized by many pension plan holder as many of them never realized this when they first brought their pension plan. Only one third of the corpus that is distributed by the pension plan to the retiree soon after reaching the retirement age is tax free, while the rest that is distributed in form of annuities is taxable at whatever tax rate that would exist at the time of retirement.
4) Pension plans only guarantee positive returns
None of the pension plans in India would guarantee a fixed return on your retirement savings. Even the best pension plans available only guarantee a positive return on your investments. If you buy a traditional pension plan you will most likely be just guaranteed that you will receive at least 101 percent of the Premium that you pay to the pension plan.
5) You can choose between varieties of pension plans
While shopping for a pension plan, there are broadly three types of pension plans. A traditional pension plan sponsored by an Insurer invests purely in debt and is meant for conservative investors. A unit linked pension plans which invest in both equity and debt. The investor at his discretion can choose the investment mix. The investment mix can also be altered on an ongoing basis at the discretion of the investor.
Pension plans sponsored by a mutual fund which are government approved provide a balanced investment approach. They typically invest in both equity and debt in proportion of 40:60.
Apart from these pension plans sponsored by mutual funds and insurers there is third option which is the National Pension Scheme. The National Pension Scheme can invest in either of these three fund options:
- Max 50% equity
- 100% government securities
- 100% debt other than government securities