World Senior Citizen Day: Post Retirement Tax Planning Critical To Avoid Paying More Tax

Senior Citizen Day: From the rush of working life to the calm of golden years, retirement is fuelled by the savings and investments earned over decades. Many retirees assume that their tax obligations would go away or reduce significantly post-retirement, as they would have only passive income and would not be working actively either as an employee, a business owner, or a professional. However, without the right tax strategy, the golden years can quickly lose their shine.

Post retirement income may flow from many channels and each source may have a different taxability. For instance, while interest received from savings account balances and fixed deposits is fully taxable, interest from some notified bonds (such as NLC Bonds or Power Grid Bonds) is considered as tax-free.

It is, therefore, crucial to structure a retirement portfolio striking the right balance between rate of return, diversification, contribution horizon and taxability of returns well before the retirement age.

"Composition of one's retirement portfolio and timing of liquidation of investments is key to retirement tax planning. Investing heavily in debt-based instruments such as fixed deposits results in a taxable interest income for the investor. This interest income is subject to tax at the applicable slab rates which can go up to 30 per cent, whereas any long-term capital gain earned from sale of equity-oriented shares or mutual funds is subject to a flat tax rate of 12.5 per cent in case the same exceed the prescribed threshold," informs Poorva Prakash, Partner, Deloitte India.

Investing in securities also provides taxpayers with an opportunity of tax harvesting wherein, they can liquidate some of their under-water investments and offset the loss arising from the sale against gains from sale of other investments. This has the dual advantage of reducing the tax base for the taxpayers and freeing up the cash locked up in loss-making portfolio.

Although, considering the volatility of market-linked investments, retirement portfolios typically need to be balanced appropriately with the right mix of debt and equity instruments depending on the risk appetite of the retiree to provide the desired returns with minimal tax implications.

"Pension plans are another popular pillar of the retirement portfolio, offering retirees a constant income. However, annuity payments received from such plans are fully taxable at the applicable income tax slab rates. Further, for private sector employees, any commutation of pension is also taxable, subject to the exemption available under Section 10(10A) of the Income-tax Act, 1961," says Prakash.

Therefore, if necessary, pension commutation must be planned in a way that it does not push the taxable income of the retiree to a higher tax or surcharge slab in a given financial year.

In conclusion, the objective of post-retirement tax planning should not be to avoid taxes altogether by investing in low return, non-taxable/ tax favourable investments but to balance one's retirement portfolio in a manner that it provides maximum amount of post-tax returns.

A balanced mix of taxable and tax-free instruments, timing the liquidation/ withdrawals strategically, can ensure that the golden years are spent enjoying life, not wrestling with avoidable tax bills.