We all hear stories from our parents about how they managed to sail through their entire careers with the same employer and how employment with the government was a preferred choice just because of the security of pension. . Today, some of the retired folks can enjoy the benefits of pension through the government jobs they once held and many others rely on the next generation to provide for them. With so many investment plans available today, especially those that are designed to cover retirement, we can also have the luxury to get monthly paychecks through pension or annuity.
Pensions and annuities are two retirement income options that can help us achieve our retirement goals. These two very distinct instruments have their own advantages and disadvantages. Let us explore the key differentiating factors of pension and annuity to appropriately plan for a retirement corpus.
What do pension and annuity mean?
Meaning of pension
Pension is a type of retirement account that is mandatorily available for Government employees. While it is highly recommended for private-sector employees for securing their retirement, it is not mandatory in this sector. Under pension plans, a fund is initiated and maintained through regular contributions during an individual’s employment with the organisation.
Features of pension
Pension types like EPF or employee’s provident fund are offered by organizations as part of an employee’s pay package. Other companies may allow employees to volunteer for pension schemes such as PPF or public provident fund, NPS or national pension scheme, etc. In the case of private-sector employees, the pension contributions and payouts are generally managed by the employers.
The Pension Benefit Guarantee Corporation will ensure the appropriate release of pensions to employees, even in situations like the bankruptcy of the company. While there is no assurance of receiving the entire pension amount in such situations, employees can still fetch a major chunk of the accumulated amount.
A noteworthy feature of pension plans is the tax benefit that employees can receive towards payments in retirement accounts. This tax benefit can be availed under Section 80C (PPF, EPF, NPS, etc). With regards to maturity, employees generally have two options under pension plans:
- They can receive monthly amounts to ensure a regular source of income during retirement.
- Employees can choose to receive a lump-sum pension amount. This allows the liberty to manage funds as they would like.
The amount that one receives through pension payouts depends on factors such as age, salary, and employment duration.
Meaning of annuity
Under an annuity plan, an investor pays a lump sum amount during the accumulation period to receive regular payments throughout life or for a pre-decided period. Annuity plans are specifically designed for individuals who want to ensure that their retirement needs are met and there is sufficient corpus available during retirement.
Features of annuity
Annuity plans allow investors to have a comfortable retirement life by offering financial security. Here are some of the noteworthy features of annuity plans:
- These plans allow individuals to save for their future through a safe investment mechanism.
- The financial security of an investment amount starts from the time an investor starts investing in these.
- Investors also have the flexibility to choose the payout of annuity as per individual requirements.
Recommended read – 5 reasons why retirement planning must be on your priority
How are pension and annuity plans different?
Both pension and annuity plans enjoy popularity among investors. Let us understand some of the major differences between these two such that we can better plan for a retirement corpus:
|Annuity plans pay out a set amount over a pre-defined period. Investors can choose when and how they receive the payouts.
|Pension plans pay out the corpus post-retirement. This can be either a lump-sum amount of small periodic payments.
|Amount to be received
|The total amount to be received depends on the amount invested by an individual over a period.
|The total pension amount depends on the amount earned as part of the pay package during working years.
|Who can receive
|Any individual can purchase an annuity scheme from an insurance provider.
|Pension plans are available only for employees who are offered this benefit by their employer.
|Who is responsible for managing
|The investor is responsible for contributing to and managing the annuity account.
|Pension accounts are mostly opened and managed by employers.As social security is not provided by the Govt, plans like NPS have been introduced
|Since an annuity is managed by investors, there is higher transparency.
|Pension accounts involve lower transparency since these are managed by employers.
|Annuity plans generally charge a fee for maintaining and investing the gathered funds on behalf of the investor.
|Pension plans do not involve any charges and are maintained free of cost by the employers.
Plans like NPS charge a very minimal maintenance fee.
Which one to choose for retirement – pension or annuity?
From the information shared above, we can deduce that both pension and annuity can be good sources of income for retirement. Whether an individual wants to receive regular payments through a pension account or annuity payments depends on specific financial goals. The important question to ask while choosing between pension and annuity is, do you have enough for your retirement needs? It is best to start by planning for a retirement budget. Investors must then try to figure out how much corpus will be needed to cover their retirement by considering all available sources of income.
If one has a good corpus to cover retirement, pension payments may be an ideal choice to generate additional income. In absence of enough retirement income to cover costs, investing in an annuity may be the right choice so that one can earn additional money.
All in all, a pension plan requires very little planning on part of the investor since he/she is assured of payouts due to the law governing pension payments. With an annuity, however, the payments may depend on the insurance provider and the plan chosen.
With regards to choosing between the two, it is best to consider one’s lifestyle needs, available retirement corpus, spending capability, etc. These factors will help in understanding which of the two is more beneficial for retirement.
1. What are the 4 types of annuities?
There are four types of annuities generally offered by insurance providers, immediate fixed, immediate variable, deferred fixed, and deferred variable annuities. These differ from each other with regards to when one can receive payments and how the annuity will grow.
2.What is the right age to buy an annuity?
The right age to buy an annuity may differ across individuals and depends on how one wants to plan for retirement or additional income.
3.Can you lose money in an annuity?
If annuity providers invest in the markets through variable annuities or index-linked, there are chances of losing money.
4.Is pension income taxable?
For non-government employees, pension income is partially taxable under the ‘salary’ income head. For government employees, commuted or lump-sum pension payout is fully tax-exempt.
5.Can you have a pension and an annuity?
In India, one can have both pension and annuity. A pension can be availed if provided by the employer and an annuity can be bought as an additional source for retirement earnings.