Life Insurance (1)
Pension Plans are retirement oriented plans that are structured to either help customers accumulate a corpus or fund for their retirement, or an annuity to provide regular income during the retired years.
Pension Plans allow for accumulation for retirement on a tax efficient basis under provisions of section 80CCC and 10(10)(d) of the Income Tax Act. (see Tax Benefits on Life Insurance).
During the accumulation phase of a Pension Plan, Insurance companies invest the pension contributions and manage the investment for a fee. The type of investment depends upon the type of product selected by the policyholder. Both traditional and unit linked pension plans are available.
Use our retirement calculator to see what funds you will need for your retirement to maintain your lifestyle. For retirement, it is advisable to start saving and accumulating for pensions early. This is because starting early can make a very significant difference to how much corpus you will have available on retirement.
Starting early makes your money work longer and the compounding of income can increase your wealth significantly on retirement. You can use our wealth calculator with two scenarios – 20 years to retirement and 30 years to retirement to see how much difference a delay can potentially make to your target corpus.
The end result of a Pension Plan is an Annuity – a sum of money to be paid to the Policyholder every year.
There are two types of Pensions annuities, depending upon the timing of when the annuity will start – a deferred annuity or an immediate annuity.
In an immediate annuity, the policyholder will make a lumpsum payment to buy an annuity which will start in the same year as the policy. The lumpsum amount could be the accumulated pension amount or the superannuation fund or any other sum accumulated e.g. provident fund balance, which the policyholder would like to use to set up a pension annuity. The policyholder will need to decide the periodicity of the annuity e.g. monthly or quarterly or yearly; and the number of years for which the annuity is required.
In a deferred annuity, the annuity payments are deferred for a future date (after a number of years) and the interval time is used for accumulating a pension fund. This is called the accumulation phase of the pension plan. During the accumulation phase, the policyholder will make investments which will grow together with the returns on the investments to provide a lump sum on the maturity of the plan.
In a Pension Plan at least 2/3rd of the accumulated pension amount has to be utilised to buy an annuity. The policyholder is free to withdraw 1/3rd of the accumulated pension amount on a tax free basis under current provisions of the Income Tax Act.
Some pension plans will also provide a life insurance cover during the accumulation phase i.e. with the deferred annuity so that the policyholders dependents are provided the pension in the event of death of the pension policyholder.
There are two types of Deferred Annuity Pension Plans:
Unit Linked Plans
Like mutual funds, Unit Linked Funds are free to set their own asset allocation and available across the risk-return spectrum including debt funds, balanced, equity funds and index funds. A policy holder thus has far greater control over where his premiums are invested.
The pension premiums paid by a policyholder are used to buy units in the Pension Fund selected by the policyholder. These units are bought at the prevailing NAV for the fund; and on maturity the fund value will be paid to the policyholder by encashing the accumulated units multiplied by the then prevailing NAV of the units.
Under revised IRDA regulations, all Unit Linked Pension Plans have to provide a minimum guarantee of 4.5% per annum. This guarantee will apply during the accumulation phase. This is likely to impact on availability of fund choices as insurers will seek to minimise exposure to market risks, and consequently it is likely that investor choice will be severely restricted in Unit Linked Pensions from September 2010.
All Unit Linked Plan also have to offer a compulsory life insurance cover or health insurance cover with the Pension Policy.
The accumulated pension can be used to buy a pension annuity under the terms and conditions as applicable for the annuity at that time. Policyholders are free to buy the annuity from any Insurer.
Traditional or Non Linked Pensions
In a traditional plan, the Insurer will provide a deferred annuity by accumulating the pension contributions in a Pension Fund. The policyholder will not have a choice of funds to invest in and the insurer will invest according to the guidelines set out by the IRDA for traditional pension funds.
The Insurer may provide an annual accumulation of premiums together with bonus or with guaranteed additions. These guaranteed additions may be for the term of the policy or declared annually at the beginning of the year.
Please refer to terms and conditions carefully for specifications of guarantees offered.