Here is How to Safeguard Pension Plans from Taxes

A person works hard to formulate pension plans that can cover daily expenses as well as unplanned spending after retirement. However, this is not the end of struggles. The money must earn a higher rate of inflation than it is worth. Yes, it's a difficult job. Moreover, if the retirement plans are not structured towards investing in the right financial products, the individual will still have to pay taxes. So, it is important to build a retirement fund that will allow the person to live longer and avoid tax liability.

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Find out ways to save retirement funds from tax erosion in this article. 

Taxes & Earning Post Retirement 

Although you may not earn a fixed monthly income, it might probably also not be your only source. Taxes must be paid on income from property such as rent, capital gains, and interest from fixed-income or equity investments. You must pay tax even if you are receiving a pension. The amount of tax you pay may vary for each age group depending on how often you receive your pension payments.

However, you don't have to pay tax if you are a Government employee who received a lump sum pension. Non-Government employees are exempted from tax on half of the amount if they have not received gratuity and one-third if they have. Your non-commuted pensions will be determined as per your tax slab.

Considering you are not employed after your retirement and your only income sources are pension & rent, we have compiled a detailed article on how you can do retirement planning to prevent tax erosion.

Tips to Safeguard Your Pension Plans

The provident funds you have built up over time will allow you to access a lump sum when you retire. You may also have saved in other savings schemes to ensure you can enjoy your peaceful years. You may think your financial strategy is done and that you can relax.

However, this is not true. As per your tax bracket, most of your savings are subject to taxes unless they're invested in the right places.

Tips to Dodge Taxes

You can save for your golden years and avoid tax erosion by investing in tax-saving schemes. Mentioned below are some options that will be helpful:

  • Public Provident Fund 
  • Life Insurance Policies
  • Tax-free Fixed Deposits 
  • Equity-Linked Saving Schemes 
  • Senior Citizens Savings Scheme 
  • Mutual Fund Investments 
  • Health Insurance Schemes
  • National Savings Certificate

Different Options to Invest

You will need to rely on your savings for your future. You might also want to invest prudently in your savings. Mentioned below are a few important factors you need to keep in mind:

  • Fund security
  • Investment returns
  • Liquidity
  • Frequency of payout

You can leverage the Voluntary Retirement Scheme to plan for your future whether you retire at 58 or earlier. The fact is, the present life expectancy is eighty years. Therefore, your assets should last decades and keep pace with rising living costs over the years. You can still plan for capital growth, safety, and security even after you retire.

You should consider how taxes can affect your investment returns and take advantage of the tax benefits offered by different schemes to protect your retirement savings.

The Correct Way to Select Savings & Investments

It is advisable to divide your corpus into sections. Some of these can include Fixed Deposits or PPF. Others can be invested in insurance. You should invest a small but sufficient amount of your funds in growth funds. Check out these low-risk investment options to save your retirement funds from tax erosion:

  1. PPF

    This could be a great place to store your money. A single year can allow you to invest as much as Rs.1.5 lakhs. Each year, the deposit is eligible for tax deductions according to Section 80C. The maximum deduction allowed under this section is Rs.1.5 lakhs. This scheme is long-term and can be used for up to 15 years. After five years, partial withdrawals are possible. You are exempt from tax on the returns.

  2. Fixed Deposits 

    Fixed Deposits have a fixed lock-in time. You cannot cancel your deposit but you can get a loan from certain Non-Banking Financial Companies (NBFCs) to cover the cost of your deposits. You can deduct the principal amount that you deposit in a tax-saver FD under Section 80C. However, interest earned is taxable.

  3. Growth-Focused Investments

    Investing in Equity Linked Savings Scheme (ELSS) or Mutual Funds can be a great option, as they offer tax benefits.

  4. Other Options (Except ELSS)

    You have the option to invest in equity mutual funds or in a mixed fund that partly invests in debt instruments and inequities. To lower your risk, you can also choose Debt Mutual Funds. No matter which type of fund you go for, dividends and returns from mutual funds are tax-exempt if you redeem after one year. 

  5. NSCs

    It is a plan with a 5-year lock-in tenure. NSCs can be purchased in any quantity. You can be tax-exempt as per Section 80C if you don't exceed Rs.1laksh 50 thousand annually. NSC interest is not released but instead reinvested every year. The interest earned on NSC each year is thus compounded and exempted from tax. Also, the reinvestment and initial deposit are free from taxes. 

    Only the interest accumulated over the last year is added to your income, and your tax bracket determines how it will be taxed. Mutual Funds and ELSS are great investments for growth. They also offer tax benefits.

*All savings are provided by the insurer as per the IRDAI approved insurance plan. Standard T&C Apply

Final Word

The proper knowledge is imperative when looking for ways to prevent your pension plans from getting eroded by taxes. The bottom line is, diverse asset classes can provide stable income growth and minimal tax outflow.

Written By: PolicyBazaar - Updated: 08 October 2021
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