Retirement Income Generation – Mistakes to Avoid

Buying an Annuity

Prima facie, Annuity Plans offered by Life Insurance companies may seem lucrative, as the (on paper) safeguard you from the risk of living too long by promising you an income stream for as long as you’re alive. However, they suffer from various drawbacks. One, annuity incomes are fully taxable as regular income. Second, the annual yields on annuity plans are generally very low (typically ranging from 7 to 8 lakhs per Crore annuitized). Third, annuities offer you no inflation protection – even the “increasing” ones, as they start you off at an abysmally low level and usually scale up the corpus by a fixed percentage of the initial value, not the previous year’s value.

Choosing the Dividend Option on Your Mutual Funds

Many retirees select the ‘dividend’ option on their mutual funds by default, without realising two things about mutual fund dividends. One, dividends are paid out of your own funds – they’re not over and above them. Two, both equity and debt fund dividends are taxed at source (prior to the current budget, equity dividends were not). In fact, debt fund dividends are taxed at a hefty rate of 28.33%, irrespective of your tax bracket. If you’re a retiree, make sure you choose the growth option for all your debt and equity mutual fund investments, and redeem from them or start an SWP (Systematic Withdrawal Plan) from them to generate a far more tax efficient income stream from your retirement planning fund.

Adopting a High-Risk Strategy and ‘Hoping for the Best’

This is a typically a mistake made by retirees who realise, too close to their retirement date, that they haven’t quite saved enough. They aim for a late surge in returns in an effort to compensate for this, by investing into high risk assets. The results are almost always bad; resulting in a further erosion of what is an already undersized corpus. Regardless of the size of your retirement planning fund, your No.1 priority simply must be to reduce risks and ensure no capital erosion. Retirees who have earmarked funds for income generation should ideally not allocate anything more than 20% into high risk assets, and should bring it back to this number on a periodic basis, through disciplined profit booking.