Thursday, January 15, 2009

Financial Planning - Pension Funds

The pension funds which are setup by companies to meet their obligation under the Laws of the Land are not my direct concern. These funds are a result of collective wisdom of the nation. Members of these funds can also work out the pension they would be receiving on retirement and the amount they would be needing to live a comfortable live in old age. The gap can be arranged for on the basis of what we discuss below.

The very nature of pension funds is such that safety is the prime consideration; this makes it a debt based fund. Interest from debt instrument cannot beat / neutralise inflation hence I started to explore other alternatives. I have stated in FINANCIAL PLANNING FOR BEGINNERS that Rs 1.5 Crores in savings would be required by today’s youngster to manage his old age. Let us have a fresh look at the above mentioned post and also at FINANCIAL PLANNING – SOME TIPS to explore whether the answer to pension funds lies therein.

Our target is to build bank fixed deposits [FD] of Rs. 10 Lacs as base and additional FDs to cover all loans that are taken subsequently. These amounts have a specific purpose to serve whilst one is in employment; once we retire these amounts can become part of our PENSION FUND.

Likewise we plan to invest in equity through Mutual Funds [MF]. 80% of this investment is to be in growth option of MFs hence would earn a return of minimum 25% on an annualized basis. Which in other words mean that every 4 years the amount would double? This would become a major foundation of our PENSION FUND.

The likes of present meltdown had last come in 1930s hence it is safe to presume that it would not be repeated in the life span of today’s youngsters. Further the India growth story is secure for another 20 to 25 years if not more. Even when India becomes a fully developed economy, somewhere an emerging economy would take root which Indians can tap for better returns on investments.

Pure Life insurance policies play a vital role in our lives. Once all loans are safely paid, the maturity amount of Pure Life policies become the second major foundation of our PENSION FUND. The maturity amount received from insurance should be invested as FD's (debt) so that the monthly expenses get covered out of interest income of FDs. Additional FDs (from sources like gains in equity [MFs]) should also be maintained with OD facility, to cater for emergencies including medical.

Balance income from other investments including equity [MFs] should be used for holidaying, visit to children, friends, relatives buying properties and meeting similar avoidable (luxury?) expenses.

Pure Life policies are life insurance policies minus the investment, personal accident or any other add-ons. The rate of premium per 1000 rupees sum assured should be the lowest. It is a pure risk policy. Agents/advisors do not prefer to canvass these policies as they get negligible commission. That is sad, because these policies serve our interest the best.

A point of caution is called for at this stage. The premium saved from not investing in pension funds should not go into pubs but to FDs and/or MFs only.

To conclude, I am not against the concept of pension funds. It works well for those who feel that financial planning is too much of a nuisance, too complicated or time consuming. The bottomline is to ensure availability of funds in old age since India does not have a social security system in place.


We will continue this discussion in future posts. Meanwhile, feel free to comment and debate. Your agreements and counter-arguments will help me to revisit my ideas.




Toonfactory said...

Ohhhh...this was something I have been googling a lot for past one week...another pearl of wisdom :) thanks a lot sir!


Vidooshak said...

Great post. People tend to use PF and property as their old-age fall-back. For private sector workers, PF and pension are negligible amount. What will (hopefully) save us is a decent return from equities (invested today) by the time we are 55. After that, it should last us another 20-30 years... hmmmmm!

BabaJain said...

Toonfactory: Tks. You are responsible for all these post. Keep it up
Vidooshak: I hope someone benifits from what I have learnt over the years.

Do you think this is the time to exit Indian stock markets?