Investing in Pension Plans in current situation? Beware and understand Why (or Why Not)

Taking benefit of low Bank FD interest and low/negative return on equity mutual funds, many insurance agents are marketing pension plan heavily for safe guaranteed return. However, they may not be a good investment for you on Risk Adjusted After Tax basis over long term.

1. Long term vs. Short term: 

Pension Plan is for a long term. Just because the current FD rates have come down to 5%, it does not mean the bank FD rates also be 5% in future. The bank FD rates had gone down to 5% even in 2008-09 and then increased to 9%+ and now come down to 5% with average FD interest rate of about 7% over 10-12 years.

Investing in pension plan to earn 5-6% taxable return over long term may not be advisable. Also, with FD, you would have better flexibility and liquidity.

2. Pension is Taxable: 

The pension amount received is taxable so after tax return is to be calculated. If pension plan gives 5% return, the after tax return would be less than 4% or 3.5% for persons in 20% or 30% tax bracket.

Whether and How to invest in Pension Plans: 

  • Understand Pension Plan, benefits, options
  • Calculate CAGR (agent only gives simple interest e.g. invest 10,00,000 and after 10 years, receive 80,000 every year, is not 8% return but is 4.9% CAGR)
  • Calculate after tax return applying your marginal tax rate (e.g. 31.2%)
  • Compare the after tax return over long term (not just 1 year but over Pension plan years) and whether you are okay with the same (in our example less than 3.4% after tax return over 20-30+ years may not be enough) 
  • Contact your advisor (not an agent) and invest as per his/her advice.

Always RememberEvery investment is a good investment. The question is whether it is a good investment for YOU.” 

LIC agents are marketing Jeevan Shanti very heavily. Please calculate your after tax CAGR and decide whether Jeevan Shanti is right for you before committing for long term and keeping in mind “This Too Shall Pass”.

About Jigar Patel, CFA (USA), MBA-Finance (USA), CPA (USA), CA (India)

Mr. Jigar specializes on NRI Investments and Taxation. He is proud to be one of only 21 CFA Charterholders in India working as consultants. (In 2011, when he became CFA Charterholder, out of 97,173 CFA Charterholders in the World, only 697 Charterholders were in India and only 3% work as consultant; Source: www.newcfa.org). He received his MBA (Finance) from University of Illinois, Chicago, USA, CPA from USA and a Chartered Accountant from India. Jigar has over 15 years of professional experience including more than 4 years with KPMG USA’s Risk Advisory Services. Currently, he provides Wealth Management and taxation consulting serving clients from USA, UK, Americas, Europe, Middle East, Asia, Africa, Australia and India.
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2 Responses to Investing in Pension Plans in current situation? Beware and understand Why (or Why Not)

  1. Mayank Patel says:

    NPS is emerging a one of the largest and the least expensive retirement solution/pension plan. What do you think will be the impact on NPS return and risk due to last few months development in financial markets?

    • Jigar Patel, CFA (USA), MBA-Finance (USA), CPA (USA), CA (India) says:

      As NPS also invests in markets – debt or equity, the returns would be close to any other debt or equity fund. However, because of its lowest expense ration, it could outperform the active or passive mutual funds. Thanks.

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