Stay away from Pension Policies

IRDA has made lot of changes in the pension sector in the last 2 years. But instead of making it customer friendly, it is now beneficial only to the insurance companies and the distributors. What has changed in these policies in the last 2 years?

Prior to September 2010

Almost all insurance companies were offering Unit linked pension plans. There were lots of choices of funds to be selected, as per the risk profile of the customer. Customer had the choice to switch between various funds to encash on the market volatility. The customer can keep more money in equities in initial years and can shift towards debt, as he nearer the retirement. Of course, the charges under these policies were high, but lesser than the other ULIP policies on offer. Pension policies were contributing a decent percentage to the total sales for almost all the insurance companies. The customer had the option to commute one – third of the corpus as tax free. If needed, he had the option to withdraw the entire corpus as taxable to meet any contingencies. The customer had the option to opt for annuities from any other life insurance companies, which is offering better rates at that time. Except for the higher charges, these policies were not bad for the customer.

Post September 2010

The IRDA has come out with certain modifications in this sector. It has mandated all pension policies to offer a minimum return to the customers. The return rate was linked to the reverse repo rate of RBI. To start with the rates offered was 4.5%. The fear of offering a guaranteed return prompted almost all the companies to stop launching unit linked pension plans. All companies know that if they have to offer such a return guarantee, they have to limit their investments predominantly in debt instruments. The chances of earning decent returns by investing in long term equities were closed. For the past 1 year, the pension policies were almost out of the market, which used to contribute to around 25% to the total sales earlier.

The insurance companies were lobbying the regulator to withdraw the 4.5% guaranteed return to encash the pension market. Now the regulator has come out with the new set of regulations from Dec. 2011.

What is the new offer from December 2011?

The regulator has allowed the companies to withdraw the offer of 4.5% return on pension policies. Instead of this, the companies have the choice of offering any of the two types of guarantees – minimum return (a non zero, positive return) disclosed at the time of issuing the policy or a specific maturity benefit.

Another major change is that the pension policy holder will have to buy annuity from the same insurance company. Earlier he has the option to go for the companies which offers the best rates in the market.

The next change is that, the facility for lump sum withdrawal either on maturity (Vesting date) or on surrender is done away with. Now the customer can withdraw only one-third of the accumulation in lump sum as tax free and the balance has to be used for getting pension. Earlier taxable withdrawal was permitted which will help the customer in case of any pressing needs.

Why you should stay away from these policies?

You can expect sales calls from insurance agents to hard sell the new version of pension policies. Please keep the following points in mind.

  1. These companies were not selling pension policies because they were not in a position to offer a 4.5% return. Now they are offering these policies because IRDA allowed them to offer lesser returns. In a country where even Savings Bank rates are almost 4 – 6%, why you should invest in these policies?
  2. Earlier you had the option to go to any company on vesting date, to purchase the annuity, if they are offering better rates. Now that is not allowed.
  3. The lump sum withdrawal facility even if is taxable was good to meet any contingency due to health condition etc. Now that is stopped and you have to compulsorily go for an annuity with 2/3rd of your accumulation. The pension is taxable too.

The companies may create sugar coated stories behind these plain truths to market these policies and agents may get a better commission to sell it. Please stay away from them. Once you join, there is no exit route.

Go for a combination of quality mutual funds, PPF etc. as per your risk profile to create a better pension corpus with flexibility and liquidity. These are tax friendly too.

7 thoughts on “Stay away from Pension Policies”

  1. sir if i will take now pension plan before dec 2011 is it ok? these rules will be applied after dec only wright?can you tell me i am planing to go for Birla sunlife vision is it ULIP plan or traditional plan?what is minimum guaranted returns i will get for vision plan?or you feel i should go for LIC only? if possible reply early

    1. Don’t go for any pension policies, because they give very low returns and are not flexible. Invest in a mix of PPF and mutual funds through SIPs for your retirement needs.

    2. I have a kind of pension plan – Money Plus -1 offered by LIC which I took around 4 years back. Ipaid the premiums(50k each year) for the minimum period of 3 years,a total of 1.5lakhs. Now I have stopped paying the premium but not quite sure if i should come out of this.The current NAV of 13.4 will fetch me only 1.38 lakhs.
      As you correctly say above,a minimum guarantee required will prompt the fund manager go conservative and less demand and people withdrawing ends up the fund being less for them to manage any thing!!
      Please could you give your openion – should I with draw,continue with out premium or continue paying premium…..


      1. If you get 1.38 Lakhs now, it will be in your interest to exit the plan and invest the proceeds in good mutual funds. You can recover the loss from the mutual fund investments. But, if you want to consume the proceeds, wait for market to recover. also see the taxation effect before taking the decision.

        1. Thanks for your reply.I am not keen on the tax benefit part since my home loan + PF covers this.
          In such a case,is it better to
          1)continue the policy by paying the premium
          2)continue with out paying the premium
          3)surrender the policy now.
          Please can you suggest which of these will be the best option.


  2. Dear Melvin, your write up on pension plan was very interesting and useful.

    I had bought a traditional pension plan in 2004 and is to mature in 2014. I’ve totally invested 15 Lacs of rupees and If I surrender now, I would only get 10 lacs. Since I had taken this policy before Sep 2010, when the rule of not withdrawing the entire maturity amount at the time of maturity, will I be able to opt for the entire corpus by paying tax or will I only be eligible to withdraw 1/3rd of the maturity?

    Pls guide me as I feel terrible loosing such an important saving of mine.

    Alex Antony

    1. If it is going to mature in 2014, don’t surrender it now, you may get better returns in 2014. Regarding the withdrawal of full amount or 1/3rd, you have to confirm by reading the policy conditions given in the policy document.

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