Retirement Funds: Know Its Key Benefits, Risks, Suitability, And How To Choose And Invest

With pension plans vanishing from private sector jobs, many individuals have taken it upon themselves to independently plan for their retirement. One such investment avenue many rely upon is retirement funds, wherein investors receive professional fund management to help them establish security for their retired life.

Of late, these funds are gaining in popularity. So, let’s understand how solution-oriented retirement mutual funds work and how they can help you with steady income and financial security in retirement.

How Retirement Mutual Funds Work

Retirement funds focus on building a retirement corpus and long-term wealth creation. There are various types of retirement plans ranging from aggressive, conservative to hybrid plans. The investment strategy of solution-oriented retirement mutual funds combines equity assets with debt holdings. These funds have a five-year lock-in period together with a milestone of 60 years age for fund withdrawal.

Key Benefits of Investing

The primary advantage of retirement-focused mutual fund investments is their ability to support extended financial planning. The five-year lock-in period establishes investment discipline which assists investors to maintain focus on their retirement objectives.

Says Pratish Krishnan, fund manager at Baroda BNP Paribas Asset Management India: “In retirement funds, one has the complete freedom to decide what to do with the money. One may choose to withdraw it completely or opt for an auto systematic withdrawal plan (SWP) option to gain regular periodic income.”

Investors can invest in retirement funds via a systematic investment plan (SIP) also. The main advantages of SIPs consist of steady capital appreciation as well as rupee cost averaging. The investment plans create a retirement-focused structure which establishes regular investment patterns through their lock-in periods. A Rs 10,000 monthly SIP invested for 25 years at 12 per cent annualised return can generate a corpus of Rs 1.90 crore.

“The two major retirement threats that investors need to prepare for include longevity risk and inflation, particularly rising healthcare expenses. Research on life expectancy patterns in India shows that the average lifespan of Indian people will reach 73 years by the year 2040. People who invest in retirement-focused mutual funds will develop an adequate pension fund to support their life after retirement,” says Sirshendu Basu, Head-Products, Bandhan AMC.

How Much Should You Invest

Many people believe they have abundant time to prepare for retirement. The most common regret that emerges after retirement is failing to start retirement planning early. People should begin their investment journey at the earliest possible time.

Says Krishnan: “If you are 25 years old and plan to invest Rs 20,000 per month, assuming 10-11 per cent returns, you can build a retirement corpus of Rs 6-7.30 crore by the age of 58. Ideally one should increase SIPs with increase in income, which can have a multiplier effect on the end corpus.”

Are retirement funds better than NPS or PPF?

Retirement funds provide more flexibility to investors compared to the National Pension System (NPS). Retirement funds have a shorter lock-in vs other products available such as Public Provident Fund (PPF) or NPS. Lock-in for retirement funds is five-year vs 15 years for PPF.

“Retirement funds provide more flexibility to investors in terms of withdrawals and managing money on retirement, which is not available in other retirement products such as the National Pension System (NPS),” adds Krishnan.

Second, the investment strategy of retirement funds includes equity and debt and real estate investment trusts (Reits) and/or infrastructure investment trusts (InVITs), which are positioned to outperform inflation over extended periods.

Also, investors using retirement funds have control over their monthly retirement income withdrawals. NPS mandates 40 per cent of the retirement corpus to be used for buying annuity from an insurance company at the time of retirement.

Lastly, there is no limit to investment in retirement funds. PPF and Tier 1 NPS schemes have the limits for maximum investment. For instance, you can invest up to Rs 1.5 lakh per annum in PPF while the NPS Tier 1 Account contributions are generally linked to the salary of the investor.

Can You Withdraw From Retirement Funds Before Retirement?

Retirement funds implement a 5-year lock-in duration or retirement age restriction whichever occurs first. The withdrawal of funds becomes possible after holding the investment for five years. The objective of building a retirement corpus makes it best to maintain your investments until retirement age.

Tax Benefits

Retirement funds are taxed like equity mutual fund schemes. Investments in some notified retirement mutual funds are eligible for deductions under Section 80C of the Income-tax Act, 1961, up to Rs 1.5 lakh per annum under the old tax regime. There is an exemption limit for gains up to Rs 1.25 lakh post the holding period of one year, while gains exceeding Rs 1.25 lakh after a holding period of one year are subject to long-term capital gains (LTCG) tax at the rate of 12.5 per cent.

Risks Involved

According to industry experts, there are no additional risks involved in a retirement mutual fund scheme. Retirement funds invest in debt, equity and Reits/InVITs. They are governed by the Securities and Exchange Board of India’s (Sebi's) MF regulations and asset management companies (AMCs) follow the same processes and safeguards that are instituted for their other schemes.

Is SIP A Good Option?

Planning for retirement is a long-term goal. “Short-term volatility in equity markets, rallies and/or corrections in the near term should not be a consideration when starting to invest to achieve one’s retirement goals. In that sense, an investor can start with a lump sum amount as well and follow up with regular SIPs every month,” says Krishnan.

How To Select Retirement Funds

There are over 25 retirement schemes available for investors to choose from -- from pure equity (aggressive) and conservative plans to hybrid schemes.

“Retirement planning requires building an adequate corpus by the time of retirement. We think based on age profile, a hybrid scheme with a good balance of equity and debt should be able to achieve the required goal for the investor,” says Krishnan.

"To select the best retirement fund, investors should also focus on these three things: Asset allocation strategy of the fund – does it match your age and risk tolerance? Fund manager’s track record, and performance consistency – how the fund has performed across different market cycles,” adds Basu.