With Irda revoking assurance, pension plans may not offer as much as other long-term products
The Insurance Regulatory and Development Authority (Irda) has given in to the demands of the industry and done away with the 4.5 per cent guaranteed return on unitlinked pension plans. While the exposure draft issued by Irda on August 1 gives more flexibility to insurance companies, it also tries its best to address the need of the policyholders.
"A pension product (deferred annuity contract) shall have an assured benefit disclosed at the time of sale, where the assured benefit means an amount in absolute terms that becomes payable on the vesting date (time when the pension starts)," said the Irda circular.
The circular goes on to explain: "An assured benefit shall mean any guarantee such as providing:
i) a minimum return (non-zero positive return) on the premiums paid during the contract period;
ii) A guaranteed maturity benefit (in absolute amount) payable at the vesting date;
iii) A guaranteed annuity from the date of vesting." If these norms come into effect, life insurance companies will have to give either of the above mentioned guarantees —to be conveyed to the policyholder at the time of buying of the product. None of the products will give all the three guarantee options — one pension plan would carry only one of the guarantees.
For instance, if you want a minimum return on premium, the insurer will assure you a part of the premium you have paid over the policy term. It will be a percentage of the premium paid to the insurer. And, this return will be revised every year in line with the prevailing market condition and the interest rate scenario.
In fact, the return will differ from one insurer to another. And since the insurance regulator has not defined the return, the policyholder will have to shop for the best possible return being offered in the market.
The method of calculating this return is yet to be decided. The good news is, given the present higher interest rate regime, these returns can be in tandem, at least in the short term. And, insurers will have to compete with the best rates available in the market to be able to sell pension products, as no one will buy a product if less than six per cent is on offer.
At present, State Bank of India has been offering 9.25 per cent on fixed deposits of five to ten years. Long-term products like Employee Provident Fund (EPF) and Public Provident Fund (PPF) give 9.5 and 8 per cent, respectively, National Saving Certificate (NSC) also offers 8 per cent (compounded half-yearly). Even traditional insurance products return around six per cent.
Those looking at buying pension policies with guaranteed maturity benefit would be assured capital protection. For example, if you buy a pension product for 10 years and are paying a premium of `1lakh annually.
If you are supposed to get `15 lakh on maturity, this option would make sure you get at least `10 lakh or your capital.
Besides, those looking at guaranteed annuity would be assured a fixed annuity or pension of the money invested. Say, if you agree to pay `10,000 annually for 10 years, the insurer would guarantee paying `5,000 from the date of vesting.
However, policyholders will be better off buying annuity at maturity at the prevailing market rate. Reason: A guaranteed annuity at the time of buying the contract may not be in line with the likely market conditions at the time of maturity. Guaranteed annuity schemes have had a bad experience in other countries. At many places, if the scheme had assured five per cent annuity, the interest rates had gone up to as high as 12 per cent and policyholders had to suffer huge losses.
Is the new norm beneficial for policyholders? The 4.5 per cent guarantee was more comforting from policyholders' perspective, as it gave this return over and above the capital. Just assuring the capital does not help a retiree. And, most traditional products already have the capital guarantee feature. Some give the sum assured and the bonus accumulated in the year.
By not defining the payable return, Irda has given the insurers an option to invest a portion of the corpus in equity markets. Given that insurers have to give a guarantee on the product, they will have to invest most of the corpus in debt funds. But, a small portion, say 30 to 40 per cent, can be put in equities.
Another disadvantage is that annuity is taxable. Only the one-third withdrawn on maturity is tax-free. This may change after Direct Taxes Code comes into effect in 2012.
Return on premium: This option may not be able to offer more than 2-3%
Guaranteed maturity benefit: Will guarantee only the capital invested
Guaranteed annuity: May not pay in line with the likely market conditions at the time of maturity
Put aside a fixed amount in equity-linked funds, which can pay 10-12% annually in the long run (at present, equity diversified funds' one-year returns = 1.76 per cent)
Other options are long-term products like EPF, PPF
Financial planners say pension product can be just a small part of your retirement kitty
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9) IDFC Mutual Funds:
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