Even though the EPF tax has been rolled back, it has resulted in a lot of savers hearing the term ‘annuity’ for the first time. An annuity is insurance in reverse, as it’s often said, ‘insurance is protection against dying too early and an annuity is protection against living too long.’ Basically, you pay the insurance company a lump sum when you stop earning, and they pay you a certain sum every month, for as long as you live, or for a fixed period. There are many variations but that’s the general idea.
Taken at face value, the now-dead EPF tax proposal seemed designed not so much to collect revenue, but to force retirees to buy an annuity to obtain a lifetime pension. 60 per cent of EPF withdrawals would have been taxed only if a retiree does not use an annuity.
There’s nothing wrong with the concept itself, but there are two big practical problems, and rather big ones at that. Firstly, of course, an annuity is not a solution that should be forced upon everyone--a lot of people actually need a lump sum at retirement. The second is a bigger issue, which is that the annuities available in India appear to be suboptimal. A typical annuity will pay you about Rs 6,000 a month for every Rs 10 lakh you pay as premium in the beginning, with some insurers paying a bit more or a bit less. If you want your heirs to get the purchase price back when you die then you will get about 30 to 40 % less every month.
If you live for 30 years, then annuities available in India run to an effective rate of return ranging from 4% to 7%. That’s just a pittance. Moreover, the same fixed sum every month every year for 30 years can hardly be called a retirement solution because the purchasing power will decline to a fraction of what it is in the beginning. There are options that give an increasing income but they have a simple (non-compounding) increase.
IRDA and insurance companies are fine with the annuity options that are available. However, based on the ULIP experience, I think one can say with confidence that these are not organisations that will design customer-friendly products unless coerced into doing so.
If annuities are to play a useful role for Indian retirees, then the annuity marketplace will have to be cleaned up first.