Retirement planning is the most important financial goal, even ahead of other goals such as buying a house, education of children and marriage. Youngsters with higher salaries and increments can stare at inflation in the face, but it is the retired folks who are left high and dry. But retirees have little knowledge about the devastating effects of inflation as their preferred investment choice continues to be bank fixed deposits. With the mutual fund industry growing, the monthly income plan (MIP) is emerging better alternative for investment.
The MIP as a product is designed for the retired community who need regular monthly withdrawals once their salary ceases to reach their banks at the end of every month. These schemes usually invest 90 per cent of the corpus in debt assets and 10 per cent in equity assets. The reason behind this configuration is to ensure that the fund is not volatile in the short term and it gives a slight impetus to the “returns” over the long term due to the tenuous linkage with market-based assets. Moreover, tax treatment for MIPs plays a crucial role for the retirees.
A corpus of Rs 80 lakh to Rs 1 crore and expected standard of living in the range of Rs 30,000 to Rs 40,000 and interest income of Rs 50,000 to Rs 60,000 make them feel they are in a safe zone. On educating them about the devastation that inflation can bring in, they begin to see the reality. The hard reality dawns when they turn 75 and their savings begin to vanish, assuming an average inflation at 7 per cent. First, they deny to face the reality. Perhaps, they feel that something has gone wrong in their calculation. On recalculation, they draw the same conclusion.
Tax treatment
Unfortunately, fixed deposits seem to have lost stamina in this race as debt funds such as MIPs which have high probability of delivering 10 per cent returns over long periods. The tax treatment on fixed deposit is different from debt funds. And here’s the catch. In the case of fixed deposits, the interest on the entire deployed amount gets taxed (assuming 10 per cent interest and 20 per cent tax bracket for Rs 1 crore, the tax works out to be 20 per cent x (10 per cent x Rs 1 crore) = Rs 2 lakh).
In case of a MIP or other debt funds, only the interest on the withdrawal amount is taxed. So, of Rs 1 crore, if one were to draw Rs 5 lakh over the year, the only interest on Rs 5 lakh would be taxed at 20 per cent (assumption 20 per cent tax bracket in both cases). Now, 10 per cent interest on Rs 5 lakh is Rs 50,000 which when taxed @ 20 per cent is Rs 10,000. The above example depicts a saving of Rs 1.9 lakh --- (Rs 2 lakh - Rs 10,000 = Rs 1.9 lakh). But most people on the verge of retirement are trapped by their bankers and many opt for fixed deposits because of lack of requisite knowledge on investment.
Start early
Only if they could plan better and start investing savings in a balanced fund, they could grow their savings into a large corpus by their 75th birthday instead of staring at a zero balance otherwise. For example, a corpus of Rs 80 lakh allowing a lifestyle for 23 years at a withdrawal rate of Rs 30,000 a month from a fixed deposit while letting the same person live a lifestyle for nearly the same number of years at a withdrawal rate of Rs 40,000.
And if this additional Rs 10,000 is invested in a balanced fund as SIP every month, he would have close to Rs 60 lakh as his 75th birthday present. Clearly his next 10 to 15 years taken care of by a small shift in investment strategy. Moreover, many retirees find some kind of “consulting” opportunity post-retirement for at least a few years (4 years to 5 years). Why should they pay tax on their entire deployed corpus in the absence of any withdrawal? They land up paying nearly Rs 6 lakh or even more as taxes which could have been so easily saved had the corpus been invested in a debt fund.
After three years, the tax treatment for debt funds gets even more favourable because it attracts long-term capital gains tax with indexation which limits tax liability.
Thus, opting for right products, the retirees can breathe easy and enjoy being a part of the growth economy.
The author is a Founder Member & Director at Next Level Education Pvt. Ltd. The views expressed in this article are his own
The MIP as a product is designed for the retired community who need regular monthly withdrawals once their salary ceases to reach their banks at the end of every month. These schemes usually invest 90 per cent of the corpus in debt assets and 10 per cent in equity assets. The reason behind this configuration is to ensure that the fund is not volatile in the short term and it gives a slight impetus to the “returns” over the long term due to the tenuous linkage with market-based assets. Moreover, tax treatment for MIPs plays a crucial role for the retirees.
A corpus of Rs 80 lakh to Rs 1 crore and expected standard of living in the range of Rs 30,000 to Rs 40,000 and interest income of Rs 50,000 to Rs 60,000 make them feel they are in a safe zone. On educating them about the devastation that inflation can bring in, they begin to see the reality. The hard reality dawns when they turn 75 and their savings begin to vanish, assuming an average inflation at 7 per cent. First, they deny to face the reality. Perhaps, they feel that something has gone wrong in their calculation. On recalculation, they draw the same conclusion.
Tax treatment
Unfortunately, fixed deposits seem to have lost stamina in this race as debt funds such as MIPs which have high probability of delivering 10 per cent returns over long periods. The tax treatment on fixed deposit is different from debt funds. And here’s the catch. In the case of fixed deposits, the interest on the entire deployed amount gets taxed (assuming 10 per cent interest and 20 per cent tax bracket for Rs 1 crore, the tax works out to be 20 per cent x (10 per cent x Rs 1 crore) = Rs 2 lakh).
In case of a MIP or other debt funds, only the interest on the withdrawal amount is taxed. So, of Rs 1 crore, if one were to draw Rs 5 lakh over the year, the only interest on Rs 5 lakh would be taxed at 20 per cent (assumption 20 per cent tax bracket in both cases). Now, 10 per cent interest on Rs 5 lakh is Rs 50,000 which when taxed @ 20 per cent is Rs 10,000. The above example depicts a saving of Rs 1.9 lakh --- (Rs 2 lakh - Rs 10,000 = Rs 1.9 lakh). But most people on the verge of retirement are trapped by their bankers and many opt for fixed deposits because of lack of requisite knowledge on investment.
Start early
Only if they could plan better and start investing savings in a balanced fund, they could grow their savings into a large corpus by their 75th birthday instead of staring at a zero balance otherwise. For example, a corpus of Rs 80 lakh allowing a lifestyle for 23 years at a withdrawal rate of Rs 30,000 a month from a fixed deposit while letting the same person live a lifestyle for nearly the same number of years at a withdrawal rate of Rs 40,000.
And if this additional Rs 10,000 is invested in a balanced fund as SIP every month, he would have close to Rs 60 lakh as his 75th birthday present. Clearly his next 10 to 15 years taken care of by a small shift in investment strategy. Moreover, many retirees find some kind of “consulting” opportunity post-retirement for at least a few years (4 years to 5 years). Why should they pay tax on their entire deployed corpus in the absence of any withdrawal? They land up paying nearly Rs 6 lakh or even more as taxes which could have been so easily saved had the corpus been invested in a debt fund.
After three years, the tax treatment for debt funds gets even more favourable because it attracts long-term capital gains tax with indexation which limits tax liability.
Thus, opting for right products, the retirees can breathe easy and enjoy being a part of the growth economy.
The author is a Founder Member & Director at Next Level Education Pvt. Ltd. The views expressed in this article are his own
