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Financial planners complain the minute one mentions ‘retirement planning’, investors assume it would be exempted from tax. Reason: The regular chant of “long-term investments get tax benefits”. However, this might not always be true. Each product designed for retirement saving is taxed differently.
Certified financial planner Anil Rego says post-tax returns of many pure retirement saving instruments aren't attractive. “A portion of the proceeds from pension policies are taxable as income in the hands of the policyholder, irrespective of whether it is the principal portion or the interest. The case is the same with the National Pension System (NPS). If mutual fund holdings are redeemed, only capital gains are taxed,” he says. Therefore, while investing for post-retirement life, do not choose a product blindly. As certified financial planner Pankaj Mathpal says, one first needs to know how many years he/she has at hand.
You have ample options if you have 20-25 years. The employed have the Employees’ Provident Fund (EPF), which is completely tax-free. Ensure you continue this even while shifting jobs and don’t withdraw from it. Last month, the interest on EPF was increased by 25 basis points to 8.50 per cent for 2012-13.
Certified financial planner Vivek Rege says employed individuals would do well to increase EPF contribution voluntarily. “Then, the corpus would be more than in the case of the Public Provident Fund (PPF), as the latter has an investment limit of Rs 1 lakh,” he says. Since April 1, 2012, PPF is offering 8.8 per cent, but the rate is linked to the market – returns would be 0.25 per cent over the returns from 10-year government bonds. Though it is risky compared to EPF, it is, nevertheless, a good option for retirement savings, especially for the self-employed. PPF is less liquid than EPF, as only half the accumulated corpus can be withdrawn every year from the seventh investment year. But, if one leaves a job within five years of service, EPF withdrawals are added to income and taxed as per slab.
Then there are three types of pension plans — from insurers, NPS and from mutual fund houses. Starting with insurers' pension policies, the insurance regulator has asked companies to provide non-zero guarantees on maturity benefits. But new plans might not give lucrative guaranteed returns to aggressive investors. Like, ICICI Prudential Life Insurance would pay 101 per cent of the premiums paid till date to an aggressive investor (75 per cent in equity). A moderately aggressive fund (50 per cent in equity) guarantees 125-150 per cent and, a conservative fund (25 per cent in equity) would pay 145-190 per cent. The returns vary between 101 and 140 per cent for Birla Sun Life Insurance’s product. If the fund value is more than the guaranteed amount, one earns the fund value on maturity.
The pension schemes offered by fund houses are better. These work as equity- or debt-oriented balanced funds and are more tax-efficient. If held for more than a year, equity-oriented funds are completely tax-exempt, while debt-oriented ones get indexation benefits. The returns, too, are better over the long term. If you have about 10 years to plan for retirement, PPF might not be the right option, as the product matures in 15 years. Consider balanced funds in your retirement portfolio, says Rege.
Returns from balanced funds are better than other schemes. According to mutual fund rating agency Value Research, equity-oriented balanced funds gave 8.85 per cent in the past year (7.50 per cent through five years), while Tata Retirement Savings Progressive gave 6.50 per cent. Diversified equity funds returned 8.94 per cent in one year and seven per cent through five years.
In the long run, debt funds could also give better returns. In the past year, income funds returned 10.5 per cent (eight per cent through five years) and short-term funds gave 10 per cent (eight per cent through five years), while ultra short-term funds (7.50 per cent through five years) and liquid funds (seven per cent through five years) gave nine per cent each.
Typically, financial planners don’t recommend pension products for retirement planning. They favour EPF, PPF and equity mutual funds. Even those with less than 10 years (five to seven years) at hand should take the equity route and, as the retirement date approaches, shift the money to debt funds through the systematic withdrawal route. It is assumed those with at least 10 years at hand already have some funds, and those could also be used for retirement needs. Ensure you have health insurance. Mathpal also suggests investing in real estate for retirement. Though real estate can be illiquid, this would help diversify the portfolio.
