Pension fund schemes are flawed-beware!

If you are a working professional in your 30s and 40s, particularly in private job, investment advisors will be after you to buy their pension plans. They present it as a solution to get steady pension income when you retire.

Below is how most pension schemes work

• You invest a fixed amount every year for a pre-determined duration (ex: 2 Lakh every year for 10 years), total 20 lakhs you've to commit to the plan during your working life
• There will be a deferment period, say 15 years (you will get return only from 16th year)
• After deferment period you get a steady income till you reach the age of 85

In above example, investing 20 lakh rupees over 10 years will get you 2.5 lakh per year from Year 15 till you reach 85 years of age (about 27 years)

Below are the problems with above pension plan

- Just to get back the money you invested, you should live for minimum 8 years post annuity (in this example, age of 65) (if taxation and inflation is factored, it will extend even more)

- 2.5 lakh per year or 20k per month sounds decent, but inflation adjusted, 20 years from now its worth effectively 78000 ₹ (6500 ₹ per month) at 6% inflation. After 40 years it is worth 25000 ₹(2k per month). No one tells you this.

- There are a dozen different rules that apply- 

• You can't withdraw at will
• If you lose your job and can't invest for a year or two in between, penalties apply or your plan may lapse. 
• You have to invest on a specific date-can't wait for market to crash, 
• Surrender value is very less
• Part of your investment is taken towards fund management fee and other charges
• Too many fine print and hidden rules to deal with when you want your money back 

Solution:

Open Demat account, start investing directly in shares.

• Select 5- 10 good quality stocks known to give decent dividends (6-8% or more)= Details here
• Invest every year when you have money, whenever market crashes
• Do this for 10 years, invest 20 lakhs in equity and you will get about 1.6 lakhs per year in dividend alone (assumed at 8%, might vary a bit depending on stock)
• 1.25 lakh long term capital gain is tax free each year. You can sell a small portion of your equity every year and reinvest. 1.6 L dividend + 1.25 L capital gain is more than 2.5 lakh pension fund was giving you. Dividend is treated as income- if you;re not working post retirement, then there won;t be much tax on dividend (unless it crosses taxable rate of 12.75L per year)
• If you don't need the money reinvest
• Share value increases over time, you can sell some in case of family emergencies, else let your capital grow 
• Even pension fund operators put your money in stock market, keep the profit and give back a small portion as return to you 
• Mutual fund investment with SWP is an option- but the difference is dividend income is treated as income tax (up to 127500 exempted from income tax) , while mutual fund returns are capital gain. (max 1.25 Lakh exempted per year on Long term capital gain) 

 Let me know what you think.