Pension plans by MFs best avenues to invest money for post-retirement years
Mutual funds are ideal for long-term financial planning. But unfortunately only two asset management companies, or AMCs, UTI and Franklin Templeton, have till date been allowed to launch funds whose purpose is to help people plan for retirement. The third, Reliance AMC, has filed an offer document with the Securities and Exchange Board of India. It is awaiting the go-ahead.
FUND CHOICES
At present, only two pension funds, Templeton India Pension Plan and UTI Retirement Benefit Pension Fund, are available in the market. These invest up to 40% money in equities and the rest in debt. Plus, investments in both are eligible for tax exemption up to Rs 1 lakh under Section 80C of the Income Tax Act. Both levy an exit load to discourage people from quitting early.
"Pension funds from AMCs have performed well over the years. We put these among the top three pension options we recommend to investors," says Kiran Kumar Kavikondala, director, WealthRays group, a financial services company.
IDEAL FOR OLD AGE
Once you touch 58, you can either withdraw the full amount or opt for regular pension in the form of dividends or systematic sale of units.
However, Melvin Joseph, founder and chief financial planner, FINVIN Financial Planners, says there is a scope to further improve the product. "Mutual fund pension funds are giving equity exposure on a selective basis, and it is less than the desirable level."
"These products have high debt exposure (at least 60%) and hence are debt-oriented, which makes them tax-inefficient compared to other mutual fund products," she says.
NEW PENSION SYSTEM
The government launched NPS to achieve two goals-changing its pension system from one based on defined benefit to defined contribution, thus reducing its liabilities, and to deepen the country's financial markets. It was launched for government employees in 2004. In 2009, it was opened for all citizens in the age group of 18-60 years.
There are two types of NPS accounts. Tier-I is a retirement account while Tier-II works like a savings account. Investors cannot withdraw from the former till the age of 60. In Tier-II, there is no such restriction.
As far as the investment approach is concerned, subscribers can choose between active and auto options (Asset Class Choice). At turning 60, the investor can withdraw 60% of the fund, either at once or in a phased manner, from the retirement account. The rest is to be used to buy annuity.
"NPS is suitable only for retirement & long-term investing," says Kavikondala. Its weak points are tax at redemption and cap on equity exposure.
In NPS, as far as the investment approach is concerned, investors can choose between active and auto options. NPS categorises assets classes as following
-Asset Class E -- equity market instruments
-Asset Class C -- Fixed income instruments other than government securities
-Asset Class G --Government securities
In active choice, investors decide the asset allocation between the three assets. They are allowed to take 100% exposure to Class C or Class G instruments but only 50% to Class E assets.
In auto choice, the assets are shifted according to the age of the investor.
PROVIDENT FUND
Everyone is aware about provident fund. But a little digging is in order here as well. There are two types of provident fund - Employee Provident Fund (EPF) and Public Provident Fund (PPF). Both are designed to provide financial security during old age. PPF has been established by the government of India and is open for all Indian residents.
In PPF, the accumulated fund can be withdrawn on maturity, which is 15 years after the account is opened. The account can be extended in blocks of five years.
In EPF, if you contribute through your employer, the money can be withdrawn after retirement or resignation, whichever is earlier. If the subscriber changes job, the amount can be transferred from the old to the new account.
PPF investments are tax-exempt up to Rs 1 lakh under Section 80C. There is no tax on maturity. However, if the amount is withdrawn before five years of employment with the same organisation, it is added to the income and taxed. This is not the case if the amount is transferred to the account opened with the new employer.
The returns from both PPF and EPF are fixed once a year and are quite decent. Mukesh Dedhia, director, Ghalla Bhansali Group, says, "Every investor should have an EPF or a PPF account because of safety, returns and tax exemption."
UNIT-LINKED PENSION PLANS
ULPPs, offered by insurance companies, are similar to Ulips, whereby a part of the premium paid is invested in the market after deduction of expenses. One part is used to provide insurance.
"The product can give marketlinked returns in the long term of, say, 15-20 years," says Joseph of FINVIN Financial Planners. But he says ULPPs have too many charges, making them complicated.
"Capital guarantee coupled with tax exemption on maturity works in investors' favour," says Yashish Dahiya, CEO, Policybazaar.com.
ENDOWMENT PLANS
Most insurance companies offer endowment plans. These are simple products. The investor pays monthly, quarterly or yearly premium for a fixed period. If he dies during the period, the nominee is paid the full amount. Otherwise, the person can claim the amount on maturity.
"The product is good for individuals who do not save and invest regularly. It inculcates the habit of long-term investing," says Joseph. "But the returns are in the range of just 4-5%," he says. There is also little flexibility. "Once an investor joins the scheme, exiting is very difficult," he says.
CONCLUSION
An ideal pension product should allow investors to take equity exposure based upon their risk appetite and investment needs rather than just their age. Age can be just one of the factors deciding the risk appetite. It should offer tax incentives at the time of investment and give tax-free returns. Considering market volatility and the possibility of inflation remaining at high levels, it should also allow investors to go for higher equity exposure even after retirement.
Although none of the above product meets all these parameters, pension plans of mutual funds come closest to meeting most of the criterion. While they may not give chart-bursting returns like the risky equity-oriented funds, they are ideal for investing over long horizons. While debt protects capital when equity markets are falling, the equity exposure ensures that the returns are higher than from other debt instruments when stocks are doing well.
NPS follows close behind but suffers due to inflexibility as it forces people to invest 40% of the fund at maturity to buy annuity, a product that few people understand. Also, its auto asset-allocation plan does not take into account the risk appetite of an individual but uses a fixed methodology. Also, the rules are still evolving. Earlier, it allowed equity investment only in stocks of companies that are part of the Nifty or the Sensex. But a recent regulation defines the investment universe as: "Shares of the companies which are listed on the Bombay Stock Exchange or the National Stock Exchange and on which derivatives are available or are part of the Sensex or the Nifty 50 index.
