Not only to achieve other priority goals today, but also you have been working hard just to ensure an easy retirement life ahead. With the passing of each day, each month, each year, you are getting gradually closer to your retirement age and you would definitely want to retire in the best possible way, Aren’t you?
In this post I am going to explain the conventional option lies ahead for you to choose one as retirement income i.e. “Annuity”. Many have lot of arguments stating that there are better product mix available than annuity plans or the same is the best as retirees might not want to get into unwanted risks. Let us not dive into the fighting now, rather understand what the plan/product all about. With so many pension and retirement products available in the financial market, a person is bound to get confused to pick up the best one that guarantees maximum benefits. One such pension product is Annuity.
Quite simple, an annuity is a financial product which provides you with an income for life in return for a lump sum contributed. It is a kind of investment wherein you make payments for a certain period of time, or pay one large amount of money. In turn, it gives you a set amount of income at regular intervals for a particular period of time. Let’s find out more about the types of annuities and how do they work in the following lines.
Though there are various types of annuity plans in India, they can be broadly categorized in two main categories;
Immediate Annuity Plans: Under these immediate annuity plans, an individual needs to invest a lump sum amount in the insurance plan and he would start getting immediately the fixed return at regular intervals throughout the life. Here an individual need not wait upto retirement, it would start from day one once he makes the payment.
Deferred Annuity Plans (Pension Plans): Most of the pension products sold by insurance companies in India are deferred annuity plans. Under deferred annuity plan, an individual needs to invest a fixed amount regularly and the payment to him would not be done immediately. The amounts would get accumulated till the end of the retirement and would be paid. The payment method depends upon the annuity plan selected. The plan can be either to pay a maturity amount during retirement plus after retirement a fixed pension would be paid throughout the life or amount would be paid after retirement through the life.
Further the receivables of annuity depends on the type you opted for.
Such annuity receivables may or may not be fixed as it depends on the plan you opt for; such as, Guaranteed (or Fixed) Annuities or Variable Annuities or Indexed Annuities
Guaranteed (or Fixed) Annuities: In a fixed annuity, you have the option to make either a lump sum contribution or a series of contributions to the contract, which in turn will pay a guaranteed rate of interest for a set period of time. Fixed annuities can be immediate or deferred. The convenience and predictability of a set payout makes a fixed annuity a popular option for retirees who want a known income stream to supplement their other retirement income. A fairly good financial instrument for those looking to receive a fixed investment income. Of course the rate of pay-out may not be so lucrative.
Variable Annuities: Such annuity plans offers you to choose investment in a variety of asset classes such as conservative, moderate and aggressive portfolio. There is generally a Minimum Guaranteed Annuity in such an option. It gives your assets the potential to grow if the market goes up. Such annuity plans are not so popular in India as the retired mass look for conservative portfolio, thus inclined towards Fixed Annuity.
Indexed Annuities: Still to come in India, but this is another kind of portfolio of securities used to compare the movement of securities of similar companies. This is a special class of annuities that yields returns on your contributions based on a specified equity-based index.
Various Pay-Out Options in Annuity Plans
There are various options through which the company pays annuity to the investor/policyholder. These options vary in the feature they provide and are chosen by the policyholder at vesting age i.e the age at which the annuity is to be started;
1. Life Time without Return of Purchase Price (Life Annuity): The annuity is paid lifetime and stops once the investor dies. It guarantees pension to the annuitant till the end of his/her life. The principal amount (purchase price) is retained by the company.
2. Life Annuity with Return of Purchase Price: Here the annuity is paid lifetime to the investor and the purchase price is returned to the nominee after his/her death.
3. Annuity Guaranteed for Certain Period: Annuity is paid for a defined period, say 5, 10, 15 or 20 years, irrespective of survival of policyholder. Beyond this, amount is paid only to the policyholder till he/she dies.
4. Joint Annuity (Life Annuity with Joint Life, Last Survivor): Annuity is paid to two individuals at the same time till their death.
5. Life Annuity with Contingent Survivor: The annuity is paid to the investor as long as he/she is alive. On death of the investor, certain percentage or 100% of the annuity is payable to the nominated spouse as long as the spouse is alive.
Do note, the returns from all these options vary depending on the age at which the annuity starts and how long the insurer has committed to pay. The rate of return is generally fixed and assured for the lifetime but varies across companies and plans.
What discourages me from Investing in an Annuity Plan?
- Low Returns: I haven’t yet heard of any pension/annuity plan providing higher returns comparing to which is at least higher than inflation. So, if you are looking this solely as investment option, better stay away from this.
- No Guaranteed Returns for Annuity: Majority of the insurance companies would not tell you how much you would get as pension amount after your retirement. They may indicate some 7% to 9% returns on your investment amount. If so, then what about cost of inflation?
- No Full Withdrawal: Under pension plans, you can withdraw only 1/3rd of the pension plan amount after retirement. Balance would be invested in annuity plan and you would get pension amount. Of course, you cannot get out of the annuity plan completely once you begin it.
- Charges/Penalties on Surrender: If you stop or withdraw from the Annuity plan a certain surrender charge needs to be paid. This depends on the type of annuity you have chosen. Sometimes this is waived off if the surrender is after a certain no. of years.
Tax Implications on Annuity Income
For your information, annuity pay-outs are not tax free. Though investments in annuity schemes of insurers are eligible for income-tax deduction under Section 80CCC, but you have to pay tax on annuity payments if they exceed the income tax exemption limit. In case it is being received as an arrangement from the employer’s side (like pension from company after retirement), it can be treated as Salary Income, otherwise, it may be taken under the head of Income From Other Sources.