Types of Pension Plans and Their Tax Benefits

Why you Need a Pension Plan

Retirement certainly brings future security as finally, after having worked hard all the years to earn a living for family, one gets to reap the benefits of that investment. Whether it is pursuing a favorite hobby, enjoying some quiet personal time, following passion for traveling or just spending quality time with family, it could turn out to be one of the most fruitful phases of one’s life.

However, we all know only too well that in today’s uncertain times, one cannot afford to overlook financial security, esp. post retirement when regular income stops.

As we know, pension plans have been around for a while to specifically address this age old concern. However, it is important to do a thorough research before selecting the best pension plan that suits your needs.

Let Us Explore More About These Schemes:

What Is a Pension Plan?

Also known as retirement plans, these are a type of investment scheme wherein you can put a certain amount periodically which accumulates over time.

On maturity, these funds will generate a steady income flow for the investor during retirement years.

Types of Pension Plans In India

1. Work Based Pension Plan

   A retirement plan wherein an employer will contribute a fixed amount periodically into an account set aside for the employee’s future benefit. These funds are invested by the employer himself as well as by the employee by deducting his share directly from his monthly salary, so that the earnings from that investment will generate a steady flow of monthly income for the employee upon retirement.

   • Defined Benefit Pension Plans:

     Under this plan, factors like the employee’s salary and years left before retirement determine the benefits.

   • Money Purchase Plan

     Under this category, monthly contributions of the employee and the employer as well as the returns on investments made with the money.

   • Hybrid Plan

     This is a combination of both Defined as well as Money Purchase Plan.

   • Personal Pension Plans

     A retirement plan that is taken up personally by an individual with a life insurance company is called a personal pension plan. Based on one’s level of risk and future plans, the premium paid by the individual is invested in funds by the insurance provider.

   These plans have no connection with the policy holder’s employer and the individual is free to choose what he wants.

2. Annuity Based Pension Plans

   • Deferred Annuity Plan:

     Under this plan, the individual is free to decide the annuity. For instance, if the policy holder purchases a plan for a deferment term of 20 years, then his annuity will only begin after 20 years. Premium under this type of pension plan can either be paid as a single lump sum amount or periodically as per the policy holder’s preference.

     Further To This, There Are Two Categories of Deferred Annuity Plans

     1. Traditional Retirement Plan: Mainly targeted towards risk averse investors, under this government pension plan, investments are mostly made in debt mediums like government securities due to the relatively lower levels of risk associated with these investment instruments. 
     2. Unit Linked Pension Plan: This is a viable option for those looking at early retirement. This type of retirement plans offer a higher return compared to traditional retirement plans. Under Unit linked plans, funds are usually invested in equities, debt and other such assets.

   • Immediate Annuity Plan

     As against a deferred annuity plan, annuity under this pension plan commences right away. The policy holder is required to pay a lump sum premium after which the pension starts immediately or max within a year of the payment of premium.

     The pension may be received monthly, quarterly, half yearly or yearly depending on the terms agreed upon by both the parties.

   • Pension Plans With or Without Life Cover

     There are pension plans with incorporated life insurance that provide full coverage in the unfortunate event of the death of a policyholder during the buildup stage. Retirement plans without life cover will only pay out the corpus raised along with the interest till date to the nominee as agreed upon by the insurance provider in case the policy holder dies during the accrual stage.

Tax Benefits of Pension Plans

Pension plans in India offer income tax benefits, based on the type of plan chosen.

• Tax Act Benefits under Section 80CCC: This income tax act was introduced by the government of India with the intention to motivate the public to invest in retirement plans. Under this section, the beneficiary can save tax as the funds contributed towards pension plans can be deducted from gross income, 1.5 lacs p.a. being the maximum deductible amount.
• Tax Benefits on Withdrawal: On withdrawal, upto 1/3rd of the pension holder’s acquired pension funds would be tax free.

Conclusion

As with everything else related to one’s personal finance planning well in advance is the key to ensuring a secured financial future when it comes to pension plans as well. So, start early.