The whole idea behind retirement
planning is
to set aside a portion of your regular income in a
disciplined manner which gets accumulated, during your
working years, to provide for your retirement needs.
Pension products, on the other hand, have undergone a
transformation post liberalization of the insurance
industry. Insurance
companiesoffer
two kinds of pension
plans,
such as;
-
Traditional
Plans
-
Unit
Linked Plans
Traditional pension
plans normally,
are not a good idea because they primarily invest in Fixed
Income Securities.
The returns are very low, and charges are high. No
doubt they are relatively safe; however they invest
money in low yield securities that
hardly ever beat inflation. Eventually, private
insurers started offering Unit Linked Pension Plan
(ULPP), thus, opening an attractive avenue for
investors to invest their long-term money in.
The first point to note is that there is no insurance
in an ULPP, though the product is offered by insurers.
Even if an insurer offers insurance cover bundled with
pension, such a product is best avoided. Insurance is
best taken independently from pension planning,
through what are called term insurance plans. ULPP is
very much an investment product, competing on costs,
benefits and returns with Mutual
Funds,
deposits, share portfolios, and so on. In the
accumulation phase, the amounts invested go towards
purchase of units, at prevailing market rates. At
retirement, the policyholder is provided with a
certain portion of the accumulated fund as a lump sum
payment. The remaining amount is used to purchase an Annuity scheme
to provide regular monthly income post retirement.
In
reality, ULPPs have several advantages over mutual
funds and
stock portfolios. They bring about discipline and
regularity of investing. Investors are less likely to
view and mix their portfolio frequently, unlike what
happens with funds. They can enjoy Tax benefits
– while contributions fall under Section
80C,
the proceeds are Tax free
under Section 10(10) D. ULPPs,
in the past, have been bad for investors, due to their
extremely high cost structure, and due to mis-selling
by wrongly informed agents getting high commissions.
First year commissions were high and have often eaten
away any potential gains for the investor from equity upside.
However, this is changing now in the wake of
investors’ growing awareness and the industry’s
maturity. There are significant differences in charges
between different policies. An unbiased financial
advisor is best placed to analyze the one best suit
for you, after taking into account the size of the
required corpus/return, the duration and other
features are desired. In almost all policies, costs
are largely recovered upfront. Thus, once you enter a
policy, it makes sense to stick with that particular
policy for at least a decade. Churning of policies is
extremely expensive and counterproductive – it defeats
the entire purpose of a ULPP.
The whole idea of ULPP is to invest regularly and
forget – not falling into the trap of micro-managing
investment. Switching after three years is the worst
thing you can do – since all costs are front loaded.
To be very clear, all the charges in ULPPs are charged
in the initial years i.e.; in the first three years.
So it will be foolishness if you are switching from
the policy after this period. Because in the new plan
again you have to pay all these charges, so it is
better to continue with a particular plan. The
investment risk is to be borne by the investor in
ULPP, so the expected retirement corpus is totally
dependent on the fund managers’ ability to manage the
portfolio. It is, therefore, important to consider the
track record of the fund manager before investing.
Retirement is the end of active employment and brings
with it the termination of regular income. Today an
increasing number of people have confirmed planning
for their retirement for below mentioned reasons
-
Approximately 96% of the working population has no
formal provisions for retirement
-
With the growing nuclearisation of family
structure, traditional support system of the younger
earning members – is no longer available
-
Developments in the healthcare space has guide to an
increase in life expectancy.
-
Cost of living is increasing at an alarming rate
Pension plans from
insurance companies guarantee that regular,
disciplined savings in such plans can build up over a
period of time to provide a stable income
post-retirement. Usually all Retirement
Plans have
two distinctive phases
-
The accumulation phase when you are saving and
investing throughout your earning years to build up a
retirement corpus and
-
The withdrawal phase when you really collect the
benefits of your investment as your annuity payouts
begin.
In
a typical pension
plan you
have the suppleness to make a lump sum payment or a
regular payment every year during your earning years.
Your money is then invested in funds of your choice.
You can opt to receive the allowance at any time after
vesting age (age at which you become eligible for
pension chosen by you at the inception of the plan).In
a retirement plan the earlier you begin the better you
gain post retirement due to the power of compounding.
How the fund
grows in ULPP?
Let us take an example of Raj & Hari. Both of them
want to retire at the age of 60. Raj starts investing
Rs. 10,000 every year from the age of 25 till the time
that he retires. In all, he would have invested Rs.
350,000. If his investments were to earn 7% return
every year, at the time of his retirement, Raj will
have a retirement corpus of Rs. 13, 82,368.
Now Hari starts investing 10 years later (i.e. at the
age of 35) and in order to make up for the lost time,
he invests Rs.15, 000 every year (which is 50% more
than raj’s annual investment). So, by the time of his
retirement, he would have invested Rs. 3, 75, 000. And
assuming the same annual return of 7% he will end up
with a retirement corpus of Rs 9, 48,735.
Most of the Unit linked pension
plans also
come with a broad range of annuity options which gives
you choice in structuring the post-retirement benefit
pay-outs. Also at the time of vesting you can make a
lump sum tax-exempted withdrawal of up to 33 per cent
of the accumulated corpus.
Options
available to individuals on pension plans
Pension plans come with various annuity options. We
have explained them below:
-
Lifetime
annuity without return of purchase price
-
Annuity for
life with a return of the purchase price
-
Lifetime
annuity guaranteed for
a certain number of years
-
Joint
life/ Last survivor annuity
Lifetime
annuity without return of purchase price:
Under this kind of plan the individual receives
pension for as long as he lives. The pension ceases on
occurrence of an eventuality and the insurance contract
comes to an end.
Annuity for
life with a return of the purchase price:
If
this option is exercised the individual receives
pension till he is alive. In the event of an
eventuality the purchase price of the annuity is
paid out to his nominees or beneficiaries. Purchase
price means the maturity amount which includes the
basic sum assured plus the bonuses or additions, if
any.
Lifetime
annuity guaranteed for a certain number of years:
Under this option the individual receives a pension
for a certain number of years as prescribed by the
plan irrespective of whether he is alive for the said
period or not. A major positive of this option is
that, if he survives the period he continues to
receive pension for the rest of his life.
Joint life/
Last survivor annuity:
Here the individual receives a pension till he is
alive. In case of an eventuality, his spouse receives
the pension.
How to Choose
ULPP plans
Following are the factors to be considered before
choosing a ULPP
-
Understand
the concept of ULPPs thoroughly
-
Focus
on your requirements and risk profile
-
Understand
the peculiarities of the plan
-
Examine
the performance of the plan
-
Understand
the charges levied on the product
-
Compare
ULPP products of different insurance
companies
-
Know
about the Company
Benefits of
the ULIP Pension Plans
-
Flexible
Life Cover
-
Flexible Investment Options
-
Regular
income through systematic withdrawal benefit after
retirement.
Working of
Unit Linked Pension Plans
We
can start this discussion by taking an example; an
individual aged 30 years who wants to buy a pension
plan with a sum assured of Rs 500,000 for 30-year
tenure. The premium to be paid for the same is
approximately Rs 13,500. In case of an eventuality,
the beneficiary will stand to get the sum assured of
Rs 500,000 plus the bonuses/additions, if any. With
the help of
Below given table we can understand the facts clearly.
|
Age
(Yrs)
|
Sum assured
Rs
|
Tenure
(Yrs)
|
Annual premium
Rs
|
Maturity amt
(6%)
Rs
|
Maturity Amt (10%)
Rs
|
|
30
|
5,00,000
|
30
|
13,500
|
960,000
|
1,590,500
|
|
Actual rate of return
|
5.10% (for 6% figure)*
|
7.80% (for 10% figure)*
|
|
Annuity amt(Rs)
|
71,500
|
118,500
|
*5.10%
will be the actual rate of return for an offered rate
of 6%
*7.80%
will be the actual rate of return for an offered rate
of 10%
In
case the individual survives the tenure, he will stand
to benefit to the tune of the maturity amount as
indicated in the table below. Assuming that he buys an annuity for
life, the annual amount he would get as pension would
be approximately Rs 71,500 (on Rs 960,000) or Rs
118,500 (on Rs 15, 90,500). The option of receiving
monthly/quarterly/half-yearly pension is available
with most life insurance
companies.
However, the returns shown at 6% and 10% are not
calculated on the premium paid. They are calculated
after deducting expenses from the premium. The actual
Compounded Annual Growth Rate (CAGR) on the premium
works out to approximately 5.10% (for the 6% figure)
or 7.80% (for the 10% figure).
Difference
between Conventional Life Insurance plans and Unit
Linked Pension Plans
There are some basic differences between life
insurance plans and pension
plans with
the objective behind both of them being the most
important. Life insurance plans aim at covering the
risk from an unfortunate event. Pension
plans on
the other hand work on the opposite scenario that if
an individual survives beyond an age (retirement age)
and he need to provide for him.
The difference in objectives is the main reason for
the differences in the features of life insurance and
pension plans. Following are the major difference
between Traditional plans and Pension Plans.
|
Features
|
Traditional plan
|
Pension plan
|
|
Maturity benefit
|
Full maturity amount received by the individual
|
Only up to one-third of the maturity amt can be
withdrawn. Remaining 2/3rd amt are to be
compulsorily invested in an annuity.
|
|
Death benefit
|
Full maturity amount received by the nominees/
beneficiaries
|
Nominees/ beneficiaries have the option of
receiving the entire maturity amt or investing up
to 2/3rd of the amt in an annuity.
|
|
Tax benefit
|
Deduction up to Rs 100,000 available under Section
80C
|
Deduction up to Rs 10,000 available under Section
80CCC.
|
|
Taxation of maturity payouts
|
Entire maturity amt treated as tax free in the
hands of the receiver
|
Up to 1/3rd of the maturity amt, if withdrawn, is
treated as tax-free. Pension received on the
remaining 2/3rd amt is taxed as per the
individual's tax slab
|
|
Stream of income
|
Entire maturity amt/ death benefit received in one
go. No provision for a stream of income by way of
pension.
|
On maturity, provides for a regular stream of
income. In case of an eventuality, option of
pension benefits available
|
Why Unit
Linked Pension Plans are better than Mutual Funds?
You might be having the doubt where to invest -
pensions plan or mutual
funds?
Here are some of the details whyPension
Plans are
better than mutual funds.
Let us compare both the plans with the help of
following example;
-
The client's age is 38 years and he would like to
retire 22 years hence i.e. at the age of 60 years.
-
The client would like to invest an amount of Rs 10,
00,000 (Rs 10 lakh) each year for three years. In
total he will invest an amount of Rs 30 lakh over 3
years.
-
The client has been suggested a single premium plan of
Rs 1 m with additional top-ups worth Rs 1 m p.a. (per
annum) for the following two years. In all, the client
would be paying Rs 3 m over the 3-yr period.
-
The client has a high-risk appetite and would like to
remain invested in equities throughout the tenure of
the pension plan.
-
The client has a well-diversified portfolio including
mutual funds and stocks
Based on the information we will show likely
retirement solution for the investor. It will help you
to make an understanding about the working of Pension
Plans and Mutual
Funds.
How do
Pension Funds work?
|
Investment amt(Rs)
|
One-time
charge (%)
|
Administration Charges (Rs)
|
Fund Management
Charges (%)
|
Investment Tenure (Years)
|
|
1,000,000
|
2.50
|
180
|
0.80
|
22
|
|
1,000,000
|
2.50
|
180
|
0.80
|
21
|
|
1,000,000
|
1.00
|
180
|
0.80
|
20
|
If
the customer decides to buy the pension
plan then
he would be paying Rs 10, 00,000 in the first year.
Since this is a single premium plan, one-time charges
on the same are 2.50% (i.e. in the first year). In
other words Rs 25,000 would be deducted from the
client's single premium amount and the remaining
amount (i.e. Rs 9, 75,000) would be invested in the
100% equity ULPP option. This amount will remain
invested for the entire 22-yr tenure. The charges for
any additional top-ups in the second year too would be
to the tune of 2.50%. Similar to the first year Rs
25,000 would be deducted from the second year's top-up
amount. So Rs. 975,000 would be invested over 21
years.
One-time charges for any top-ups from the third year
onwards fall to 1% for the year. Thus, only Rs 10,000
(i.e. 1% of Rs 1,000,000) would be deducted and the
outstanding amount would be invested. The third year
amount (Rs 990,000) will remain invested for a 20-yr
period (i.e. time to maturity). Fund management
charges (FMC) for managing equities in the given ULPP
are 0.80% p.a. Administration charges are assumed to
be Rs 180 p.a. (increasing at an assumed inflation
rate of 5.00%).
As
can be seen from the table above, assuming a
compounded growth rate (CAGR) of 10% p.a. over 22-Yr
tenure, the client's investments will grow to
approximately Rs 18,400,000.
How do Mutual
Funds work?
|
Investment
amt (Rs)
|
Entry load
(%)
|
Fund Management
Charges (%)
|
Investment
Tenure (Years)
|
|
10,00,000
|
2.25
|
2.00
|
22
|
|
10,00,000
|
2.25
|
2.00
|
21
|
|
10,00,000
|
2.25
|
2.00
|
20
|
The client will invest Rs 10,00,000 p.a. for 3 years
in a mutual fund scheme. However unlike a one-time
initial charge associated with the ULPP above mutual
funds usually have an entry or exit load on their
schemes. Assuming an entry load of 2.25% for each of
his three annual investments (of Rs 1,000,000), the
net amount invested would be drawn down by Rs 22,500
(i.e. 2.25% of Rs 1,000,000) each year for the initial
three years.
We
have also assumed a decreasing FMC (Fund Management
Charges) on the mutual fund schemes- the assumption
here is it would be 2.00% for the first 5 years, 1.75%
for the next 5 years and 1.50% for the remaining
period thereafter. The declining FMC assumption is
based on the fact that as the quantity for a mutual
fund scheme grows over a period of time, economies of
scale come into play. This helps the mutual
fund spread
its costs over a larger quantity thereby reducing its
overall cost of managing the fund.
As
with the Pension
Plan assuming
a 10% rate of growth over a 22-yr period, the mutual
fund investments would have grown to approximately Rs
1,5240,000. The return generated by ULPP is higher
than the mutual fund return by Rs 31,60,000 (i.e.
20.73%).
The reason why Pension
Plan scores
over mutual funds is because of a low FMC. The FMC on
the Pension Plan under review is 0.80% throughout the
tenure as compared to the mutual fund FMC, which is in
the 1.50%-2.00% range. Over the long term FMC makes a
significant impact by reducing the corpus available
for investments. In other words, lower the FMC, higher
the investible surplus and vice-versa.
Entry load
It
is the commission that an investor has to pay while
purchasing units of a mutual
fund.
This is a certain percentage that the mutual fund
charges to meet its expenses. Certain funds have Exit
Load which means a similar kind of commission but it
is charged when the investor exits the scheme.
Therefore it is better to invest your money in the Pension
Plans than
mutual funds
Comparison of
ULPPs :
The below given table will help you to compare some of
the Unit Linked Pension Plans in the market.
|
Product Name
|
Birla Sun Life
Insurance Freedom 58
|
HDFC Life Unit
Linked Pension II
|
ICICI Life Link
Super Pension Plan
|
Canara HSBC Unit
Linked Pension Plan SP
|
|
Minimum Premium
|
10,000
|
Rs. 12,000
|
25,000
|
Rs. 50,000
|
|
Maximum Premium
|
Information Not
Available
|
No Limit
|
No Limit
|
No Limit
|
|
Minimum Term
|
5 Years
|
10 Years
|
5 Years
|
5 Years
|
|
Maximum Term
|
Not Applicable
|
40 Years
|
57 Years
|
52 Years
|
|
Minimum age at Entry
|
18 Years
|
18 Years
|
18 Years
|
18 Years
|
|
Maximum age at Entry
|
80 Years
|
65 Years
|
70 Years
|
65 Years
|
|
Vesting Age
|
Not Applicable
|
Minimum is 50 Years
and Maximum is 75 Years
|
Minimum it is 45
Years and Maximum it is 75 Years
|
Minimum Age is 45
Years and Maximum age is 70 Years
|
|
Death Benefit
|
Fund Value
|
Fund Value
|
Fund Value
|
Sum Assured along
with the Fund Value
|
|
Surrender
|
Can be Surrendered
after completion of 3 Policy Year
|
Can be Surrendered
after completion of 3 Policy Year
|
Can be Surrendered
after completion of 3 Policy Year
|
Can be Surrendered
after completion of 3 Policy Year
|
|
Top Up option
|
Minimum Top Up will
be 10,000
|
Minimum Top Up will
be 10,000
|
Information Not
Available
|
Minimum Top Up will
be Rs. 5000
|
|
Tax Benefit
|
Tax Benefit is under
section 80CCC and 10(10A)
|
Tax Benefit is under
Section 80CCC
|
Information Not
Available
|
Contributions made
and proceeds received will be eligible for tax
deduction as per applicable tax laws
|
|
Top up premium
allocation charges
|
2%
|
1st year it is 2.5%,
2nd year onwards it is 2%
|
Information Not
Available
|
2%
|
|
Premium Allocation
Charges
|
1st year it is 10%,
2nd year onwards 2%
|
Annualised Regular
Premium - 1st year for the premium of 12,000 to
4,99,999 the charges will be 60%, for 5,00,000
and above the charges will be 80%, Annualised
Regular Premium for 2nd year the charges will be
85%, Annualised Regular Premium from 3rd policy
year onwards the charges will be 98%
|
This will be
deducted from the premium amount at the time of
premium payment and units will be allocated
thereafter
|
On 1st year it is 20%
and 11th onwards no charges
|
|
Fund Management
Charges
|
1.00% for Income
Advantage, Protector, Buider and Enhancer, 1.25%
for Maximiser
|
In the long term,
the key to building great maturity value is a
low FMC. The daily unit price already includes
our low fund managment charge of only 1.25% per
annum charged daily, of the fund's value.
|
Pension R.I.C.H. II,
Pension Flexi Growth II, Pension Multiplier II -
1.50%, Pension Flexi Balanced II, Pension
Balancer Fund II - 1.00%, Pension Protector II,
Pension Preserver - 0.75%
|
1.75% p.a. of the NAV
for Equity Growth Pension Fund and Accelerator
Mid-Cap Pension Fund and Pure Stock Pension
Fund, 1.25% p.a. of the NAV for Equity Index
Pension Fund II and Allocation Pension Fund,
0.95% p.a. of the NAV for Bond Pension Fund and
Liquid Pension Fund
|
|
Policy Administration
Charges
|
5% per annum since
inception
|
Rs. 60 per month will
be charged
|
Rs. 20 Per Month
|
Rs. 630 Per Month
|
|
Surrender Charges
|
1st year it is 27%,
2nd Year it is 20%, 3rd Year it is 13% and 4th
year on wards No Charges
|
4th policy year it is
95% of the fund value, 3rd policy year it is 35%
of the fund value, 2nd policy year it is 15% of
the fund value, 1st year it is 5% of the fund
value. 0 - Nil
|
3rd year it is 96%,
4th year it is 98%, 5th and above it is 100%
|
Information Not
Available
|
We believe that the
information provided in
this article is informative for you. Apart from Unit
Linked Pension Plans (ULPP), many other avenues are also
available to park your savings and it can help you in
making a good money backup for your retirement needs. In
our next article we will discuss about Traditional Retirement
Plans.
We hope it will help you to enhance your knowledge about
the importance of Retirement planning. |
