A Pension Plan Can’t Be Your Whole Retirement Strategy: Here Is Why

A day comes when we stop working, but life does not stop. With increased life expectancies, financial planning for retirement is even more important. After 60, the likelihood of falling ill also increases, and thus, medical expenses also tend to go up.

Insurance companies offer a product called pension plans. The idea is simple. Pension plans are retirement products that offer a regular income after you stop working. When you are working, you pay premiums and build a retirement corpus. When you retire, you receive annual or monthly returns for a fixed period.

Pension Plans Do Not Beat Inflation 

As a concept, it sounds simple, but here is the catch.  “In most traditional pension plans, the focus is on stability rather than on beating inflation. Although fixed payouts offer stability, if the plan isn't connected with inflation or markets, your purchasing power may eventually decrease,” says Sarita Joshi, head, health and life insurance, Probus.

Let us say you are 30 and you buy an annuity that provides you with Rs 1 lakh a month after retirement. At 60, if you consider an inflation of 7 per cent, you would need Rs 7.6 lakh to purchase the same amount of goods that Rs 1 lakh purchases today. 

Taxation can make a big difference. “While contributions often qualify for deductions under sections like 80C or 80CCC, the income you receive from most annuities is taxable at your slab rate,” says Joshi.

Why Your Retirement Funds Need Some Equity Exposure 

This is essentially that your retirement funds will need some equity exposure. Investing in mutual funds is one option, but you can also consider the national pension system (NPS) is also a good option. “NPS equity allocations at about eight to 10 per cent CAGR over time do. Factoring this out over a 20-25 year retirement horizon could easily lead to 40-60 per cent more real income because of the compounding difference. The trade-off is that the market is volatile in the early years, and this requires careful asset allocation,” says Paramdeep Singh, a financial services veteran across insurance companies like GE Money and SBI Life. 

Guaranteed lifetime income does provide peace of mind, but caps upside, especially during high inflation. So, a balanced approach with some equity exposure is highly recommended.