Retirement planning is one of the key aspects of financial planning where a person looks for regular income after retirement. While there are several ways to save for retirement, investing in a deferred annuity plan is one way to secure your retirement. However, it is important to understand how a deferred annuity plans works and whether it is right for you.
A deferred annuity is an insurance product designed to secure a guaranteed income stream during retirement. In this arrangement, individuals make a lump sum payment or a series of payments to an insurance company, which then invests the funds and disburses a portion annually, typically for the remainder of one’s life.
“These plans become particularly relevant for those under the age of 50, especially if the policy assures a future pension rate or amount at the time of purchase,” says Chethan Shenoy, director and head – product and research, Anand Rathi Wealth.
It is important to remember that deferred annuity plans are usually not a good option as a source of regular income.
“Usually the returns from annuity products are in the range of 5-7 per cent depending on the entry age,” says Abhishek Kumar, a Securities and Exchange Board of India (Sebi) registered investment advisor, and founder, SahajMoney, a financial planning firm.
Also, the fact that such products invest in bonds and other low-risk investments mean that the returns do not beat inflation.
But if someone is very risk averse and for peace of mind wants to go for guaranteed income then they can explore such products.
“However, the risk is that they might not fully understand the risk of inflation in their retirement year, and what looks like a decent income in the first year of annuity payout might become insufficient in coming years due to the effect of inflation as annuities have fixed payout,” adds Kumar.
It is important to account for inflation before buying such products, as annuities are not inflation-adjusted. So if one gets Rs 1 lakh per month in the first year of payout, then after 10 years the payout would still be the same or Rs 1 lakh per month, where as adjusted for six per cent inflation their expenses would keep on going up. So, the annuity payout would become insufficient to meet expenses.
Hence, to meet your retirement expenses by investing in a deferred annuity plan, the amount you would need to invest would be very high. While a deferred annuity plan can give you a regular income after retirement, it would be difficult to meet your expenses in retirement, if you do not have an equity exposure.
Says Shenoy: “Factor in the internal rate of return (IRR) of the plan, keeping in mind that IRRs for deferred annuity plans may often be considerably lower compared to equity mutual funds. This comparison aids in making an informed decision aligned with your financial goals and risk tolerance.”
Shenoy recommends checking if the plan provides an open market option, thus allowing for the purchase of annuities from any other insurance company at the end of the deferment period, thereby providing more flexibility and choice.
