Pension fund should have tax incentives, lock-in till retirement

Not for the first time, SEBI chairman UK Sinha has called upon mutual funds to actively get into the pension funds business. Such products would fill a serious gap that is there in the range of retail financial products that are available, writes Dhirendra Kumar.

Not for the first time, SEBI chairman UK Sinha has called upon mutual funds to actively get into the pension funds business. Such products would fill a serious gap that is there in the range of retail financial products that are available.

Basically, a pension would be a mutual fund where investments would be locked-in till the investor turns 58. Apart from that, it would be a normal fund. It could be an equity fund or a hybrid one or even a debt fund, although equity and hybrid make more sense.

From the perspective of an investor who actively wants to invest for retirement, every single existing fund is already a pension fund. Nothing stops you from starting an SIP, continuing it till you retire and never withdrawing a single paisa till you retire. When you retire, you could take out the money and buy an annuity or whatever else you prefer. If the investment is in an equity or an equity-oriented hybrid fund, then the entire withdrawal—the original investment as well as the returns—will be tax-free.

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However, it is this issue of tax-breaks that is the impediment in current funds (or any new pension-fund that could be launched) from being successful as a pension product. Retirement savings traditionally come with some kind of tax incentive. However, no such tax incentives exist currently for pension products that mutual funds might hypothetically launch. Equity funds have no capital gains tax if they are held long-term but that is only applicable at withdrawal—there is no incentive to invest in them for the long time-frame of retirement. Also, the capital gains exemption is incidental to the purpose of retirement planning. It may or may not be in force when you actually retire.

To actually work as a viable option, a pension fund would have to have some sort of a tax-incentive for investing, an actual lock-in till the retirement age, as well as tax exemption on withdrawal. Given the long period involved, it could also have lower cost than standard funds. That would actually make the product very similar to the NPS, but with greater variety of funds available and better marketing.