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RETIREMENT PLANS BUYING GUIDE
:1800-266-9777
What is Pension Plan? Meaning, Types & How It Works
Table of Content
After understanding the pension meaning, you should also explore ways to create a fixed income post-retirement. Pension plans are investment tools wherein you invest funds at regular intervals during your career days to create a corpus and a regular income stream for your retirement years.
The pension plan types are NPS, EPF, PPF, Annuity, pension plans with insurance and investment components, etc. Pension plans with life cover provide financial security for your family in your absence and help create a corpus through equity-linked returns.
A percentage of the investment in these pension plans can be withdrawn on retirement. The remaining can be invested in annuity plans to generate a regular income to secure your post-retirement life.
What is Pension?
So, what does pension meaning imply? After retirement, an employee may have a reliable source of income thanks to their pension. The employer and the worker contribute to a pension fund throughout a worker's working years. Defined benefit plans provide a certain sum for retirees. When people retire from their occupations, they should be able to keep living well because of various pension schemes and learning well about what is pension.
What is a Pension Plan?
So, what is pension plan? You can safeguard your financial future by contributing to a pension or retirement plan. Contributing a certain amount each month to your pension plan allows you to accumulate a substantial amount progressively. If you cannot continue working, this will provide a steady flow of fund payments.
The Public Provident Fund is one of India's best retirement savings schemes. The earlier you start saving for retirement, the more secure your financial situation will be in your golden years. A well-planned retirement account may allow you to beat inflation and secure your post-retirement life, thanks to the power of compounding.
How Does a Pension Plan Work?
With clarity about the pension plan definition, you can proceed to invest after you understand how pension plan works. You should first decide at what age you want to retire and assess the amount required to live a comfortable life post-retirement. Accordingly, you should build a fund during your career years to generate an income of the size estimated.
You invest a fixed amount regularly and the capital grows through market-related investments. This is the accumulation stage. To effectively plan this accumulation, a retirement calculator can be a valuable tool to project potential growth and determine necessary contribution amounts. In the distribution stage, i.e., on maturity, you can withdraw a percentage of the accumulated funds. With the remaining, you can buy an annuity plan to generate a regular income stream.
Types of Pension Plans
With the help of a pension plan or scheme, you can focus on yourself after retirement. Having a reliable source of income allows you to quit worrying about money and focus on doing the things that bring you joy. There are several types of pension funds that may help you in planning for retirement.
Annuity Plan
One kind of pension plan is the annuity plan, which lets members contribute a certain amount each month until they retire and then get a steady stream of payments (annuities) for the rest of their lives.Social Security Schemes
Pension schemes run by the government, such as Social Security, allow qualified individuals to receive payments after retirement age. These programs get funding from the government, companies, and employees.Deferred Annuity
Deferred annuity plans allow participants to put money down while they're still working, but the payments won't begin until a later date, often when they retire. A sum of money may be set aside for later use.Immediate Annuity
Payments may be sent immediately or at regular intervals to the account of an individual who invests in an instant annuity plan. After you retire, you'll have a reliable source of income, thanks to it.Annuity Certain
An annuity's payout period is fixed and does not change regardless of the annuitant's life expectancy. The annuitant's beneficiary may take over payment distributions if the annuitant does not survive the term.Pension Plan with Life Cover
Life insurance and retirement savings are both included in this pension plan. In the case of the owner's premature death, whether during or after retirement, it serves as both a source of income for retirement and a death benefit.Life Annuity
A life annuity guarantees the annuitant a fixed sum to be paid out every month or year for the rest of their lives. When an annuitant passes away, payments will cease unless a joint-life or guaranteed period option is selected.Guaranteed Period Annuity
The lifelong payments of a guaranteed period annuitant are continued by a beneficiary for the remaining term of the annuitant's death, which is often 10 or 20 years.
Ways to Grow Your Retirement Savings with a Pension Plan
The following are the ways to grow your retirement savings with a pension plan:
National Pensions System (NPS)
The National Pension System is a government-backed plan. The Pension Fund Regulatory and Development Authority of India manages the plan. Employees of public, private, and unorganised sectors can invest in this plan. The subscribers have the liberty to create an investment portfolio depending on their risk tolerance and financial goals. The return rate depends on the funds chosen.Public Provident Fund (PPF)
Public Provident Fund is a safe and tax-efficient investment plan ideal for risk-averse individuals. It is a government-backed plan and ensures guaranteed returns and capital protection. The minimum investment stipulated is Rs. 500 and the maximum in a financial year is Rs. 1.50 lakhs.Unit Insurance Plan (ULIP)
ULIP is a pension plan with life cover. It has both insurance and investment components. A part of the premium paid towards the plan is utilised to provide life cover and the remaining is invested in market-linked assets to generate returns.Employee's Provident Fund (EPF)
EPF is a plan by the Employees Provident Fund Organisation (EPFO). It is a government-backed scheme meant for both private and public sector employees. It involves a regular contribution from the employees and an equal contribution from the employer.Pension Fund
Pension funds are safe retirement planning tools. You can invest a specific amount in the pension fund regularly to create a corpus for post-retirement sustenance. The funds accumulated are invested in various schemes to manage the pension corpus.
How to Choose the Best Pension Plan?
Your present financial situation, retirement goals, and the use of a pension calculator should be among the many factors considered when selecting a pension plan. Here are a few key points to keep in mind:
Maximum Retirement Age
Determine the date you intend to retire. This impacts both the time you have to let your assets develop and the duration of your investment horizon. If you start early, You may invest boldly and perhaps make more money.Consider Your Expenses
Set aside monthly money to cover all your expected retirement expenses, such as rent or mortgage, groceries, transportation, healthcare, and entertainment. You may expect to cover these costs in retirement from the money you get from your pension plan.Inflation
When estimating future expenses, inflation should be factored in. Select a pension plan with returns that outpace inflation if you want your purchasing power to remain stable over time. It is wise to consider plans whose investment options have historically beaten inflation.Asset Allocation
Assess the method used to distribute assets by the pension plan. Consider your investing horizon and comfort level with risk before settling on a balanced fund, stocks, or bonds. A diversified portfolio may help you maximise rewards while reducing risk.Added Benefits
Look into the additional advantages of the pension plan, such as critical sickness, disability, and life insurance. With these benefits, you and your family might be financially secure in an emergency.Taxability
Find out what your tax options are in relation to the pension plan. You can get a tax break on your contributions & at the time of vesting/maturity.. Evaluate your options for tax-deferred or tax-exempt investments to maximise your retirement savings while minimising tax liability.Policy Features
Consider the components of the pension plan, including the ease of withdrawals, the plan's portability, and the contribution flexibility. Before making a decision, take stock of your requirements, desires, and financial situation. You can get out of certain plans partially in case of an emergency or other qualifying life event.Policy Fees
Think about all the costs and fees associated with the pension plan, including administration, surrender, and management fees. Charges that are too high could have a devastating effect on your profits in the long run. Look for a plan with transparent and affordable pricing.Outstanding Debt Repayment
Plan ahead for how you will pay off any lingering debts after you retire. Choose a pension plan that won't put your retirement savings at risk if you take out a loan, and include it in your promises to repay loans when you figure out how much money you'll need for retirement.
What Are the Risks of a Pension Plan?
A pension plan is the best tool to provide financial security after retirement. However, every pension plan has some degree of risk. The risks are:
- Changes in interest rates can affect the investment returns on the debt instruments of the plan. This is likely to impacting the overall performance of the pension plan.
- An inappropriate investment decision by the fund manager can lead to low investment returns or inadequate funds for overall pension.
- A pension plan with high returns is usually one with aggressive investing or high risks as well. Low risk options may not yield returns adequate to meet your post retirement financial needs.
- If the rate of return on the pension plan does not keep up with inflation, it may reduce the purchasing power of the pension amount received in the future.
- Pension plans work best only when you invest early. People who invest in pension plan in the early years of their job stand to build a significant corpus. However, those who are late entrants might not be able to accumulate enough for their retirement needs.
Are Pension Plans Taxable?
- Any payment received in commutation of pension as a lump sum on maturity is exempt under section 10(10A) of the Income-tax Act, 1961, subject to fulfilment of various conditions under the current income-tax law.
- Regular Pension (Uncommuted Pension) from Pension/Annuity plans would be taxable under the head “Income from Other Sources’.
- Premiums paid in a financial year towards pension/annuity plan for receiving pension from a fund are eligible for deduction under Section 80CCC# up to the limit of Rs. 1,50,000/- in a financial year.
Who is Eligible for Pension?
Eligibility for a pension depends on the country's laws and regulations and the particular pension plan. Pension plans are a common component of employee benefits packages offered by employers. Eligibility for these pension plans is often determined by factors including age, length of employment, and job status (full-time vs. part-time).
Government agencies often provide pension plans to their employees. Members of the armed forces may be eligible for pensions via a variety of retirement plans. Eligibility is determined by years of service and other criteria specific to each military branch.
Tips on Planning for Retirement With a Pension Plan
It is important to plan ahead to have sufficient funds in your retirement years, regardless of whether you rely on a pension. Here are some guidelines to follow so that you may maximise your pension benefits when you retire:
Understand Your Retirement Plan
From the prerequisites to the contribution amounts and vesting periods and everything in between, make sure you have a firm handle on your pension plan. With this information in hand, you can make a more informed decision regarding your retirement plans.Dealing with Inflation
You should factor in inflation as you save for retirement so your pension doesn't become worthless. They are assets to consider if you want to extend the life of your retirement funds and purchase additional stocks or real estate, which may grow in value more quickly than inflation.Regularly Review and Adjust Your Plan
At regular intervals, you should review your retirement plan and make any required adjustments to account for changes in your financial situation, lifestyle goals, or economic conditions. Be on the lookout for any changes to your pension plan or laws that affect your retirement savings at all times.
FAQs:
1. What do you mean by pension plan?
Many employers and groups provide pension plans to ensure that retirees have a certain amount of money after they stop working.
2. Do I need a pension plan if I have a PF?
While a Provident Fund (PF) is an option for retirement savings, you could be better off financially in the long run with a separate pension plan that offers even more money and benefits.
3. What is a pension in salary?
A pension in pay allows workers to save a portion of their wage each pay period to have access to benefits when they retire.
4. How is a pension plan different from a term plan?
Pension plans are designed to provide income in retirement, whereas term plans pay out a one-time lump sum payment to beneficiaries in the event of the policyholder's death while the policy is valid.
5. Why is pension important?
Pensions are vital because they relieve a great deal of financial stress in retirement by providing a steady income stream to cover basic expenses and keep people's standard of living at a certain level after they stop working.
6. What are the three types of pension?
The three types of pensions are defined contribution pension, defined benefit pension, and state pension.
7. How is a pension paid?
There are three options for pension payment. You can withdraw the entire retirement corpus in a lump sum irrespective of the amount, buy an annuity or take a cash lump sum, or withdraw a part of the corpus in lump sum (no restriction on the amount) and reinvest the remaining.
8. Which pension scheme is best?
The best pension scheme depends on the risk appetite, affordability, and financial goals.
9. Who is eligible for Pension Plans?
The eligibility criteria depend on the pension plans you choose. It is recommended you study the plan requirements before investing in one.
10. When is the right time to invest in a pension plan?
Any time is the right time to invest in a pension plan. However, starting to invest early has the advantage of creating a huge corpus owing to the power of compounding.
Conclusion
Retirement planning through investment in pension plans is crucial for a peaceful and stress-free retirement life. Now that you are aware of pension meaning, what pension plans are and the various types of plans available, you can invest in a plan that suits your financial goals as well as financial requirements and fits into your budget. Opting for pension plans with life cover and investment options ensures that your family does not face a monetary crisis in case of your untimely death while creating a substantial corpus to meet financial goals.
Related Article:
- How to Choose a Pension Plan for Retirement Planning
- Things to know about pension plans
- Key Features of Pension Plans You Must Know
- Tax Benefits of Various Pension Plans
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Francis Rodrigues
Francis Rodrigues has a decade long experience in the insurance sector, and as SVP, E-Commerce and Digital Marketing, HDFC Life, manages the online sales channel, as well as digital and performance marketing. He has had hands-on experience in setting up sales channels and functional teams from scratch over a career spanning 2 decades.
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Vishal Subharwal
Vishal Subharwal heads the Strategy, Marketing, E-Commerce, Digital Business & Sustainability initiatives at HDFC Life. He is responsible for crafting and ensuring successful implementation of the overall organisation strategy.
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Unit Linked Life Insurance products are different from the traditional insurance products and are subject to the risk factors. The premium paid in Unit Linked Life Insurance policies are subject to investment risks associated with capital markets and the NAVs of the units may go up or down based on the performance of fund and factors influencing the capital market and the insured is responsible for his/her decisions. The name of the company, name of the brand and name of the contract does not in any way indicate the quality of the contract, its future prospects or returns. Please know the associated risks and the applicable charges, from your insurance agent or the intermediary or policy document of the insurer.
#Tax benefits & exemptions are subject to conditions of the Income Tax Act, 1961 and its provisions. Tax Laws are subject to change from time to time. Customer is requested to seek tax advice from his Chartered Accountant or personal tax advisor with respect to his personal tax liabilities under the Income-tax law.
@. Amount of guaranteed income will depend upon premiums paid subject to applicable terms and conditions.
@@. As per Income Tax Act, 1961. Tax benefits are subject to changes in tax laws.
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