Keep taxes in mind while planning for retirement

Retirement is seen as time for relaxation. And this is rightly so! But, the one common thing that haunts during retirement is lack of freedom from taxes. Although, one mayn’t incur the payroll taxes, if one has stopped working, still everyone is liable for taxation on the retirement income/pension, any withdrawals from the retirement accounts and also on other retirement benefits if not planned well.

This hence makes it critical for one to design the retirement cash flows in such a way that the corpus is a right mix that generates for a tax-efficient income. One needs to be aware of the limits and the composition of the corpus that generates the income through interests, rental income, capital gains, withdrawals, social security benefits, pension payments and possibly from a part-time job.

Even the type of employment and the arrangement bears an impact upon the tax outgo. One surely can’t evade tax but could avoid or reduce by employing certain methods. Most investors are sensitive to taxation all throughout their earning and wealth creation years but somehow either ignore or unaware of this burden during the retirement years.

One needs to understand that it’s equally important to limit taxes on the savings even during the retirement.The right mix is not a fixated proportion across assets and distribution among them. But, it’s about having a composition that makes for a better tax savings while ensuring the income flows that are required.

An efficient corpus has exposures to asset classes that range from equity to debt to fixed income to bonds to real estate and commodities. The composition also needs to have non-taxable components like Life Insurance, Public Provident Fund (PPF) and Provident Fund (EPF) in case of an employee.

These last three options provide long-term income which is tax free. Though, in case of the E/PPF, the amount is tax-free but is doled out at one shot. In life insurance, however, it could vary from a monthly/yearly or any regular intervals to a lump-sum payment. Life insurance payouts are tax-free subject to various fulfilling prerequisites, though, the pension plans provided by the insurance companies are taxed as income.

These avenues offer a more consistent return, though low. Within the life insurance plans, the Unit Linked Plans (ULIP) could be beneficial if well-planned. For instance, one could take a higher risk at the earning years and reduce it as one nears the retirement. A ULIP which is maturing around the retirement target could utilize higher allocation towards the equity while slowly reducing the risk as the maturity nears.

The fund composition in the plan could be skewed completely or mostly towards debt but still could gain the advantage of tax exemption. In general, even a MF of debt-orientation attracts capital gain taxation but with the ULIP, one could avoid this. The corpus also should have equity exposure in either pure or hybrid form through direct holdings or Mutual Funds (MF).

The long-term capital gains for a period of one year and above are zero. For liquidity and comfort sake, one could also explore the Fixed Deposit (FD) route though the interests are taxed beyond a limit. So, one needs to be aware of it and accordingly allocate to this asset. The other improvement is through bonds, capital guarantee plans and Fixed Maturity Plans (FMP).

Bonds offer, depending upon the rating, higher to moderate rates of return. Bonds provide a fixed income while when sold provide better taxation through capital gains, especially in times of falling interest rates. Real estate exposure provides for a multitude of opportunities especially during the retirement years.

A physical property could yield monthly rental and could be a source for income though 70 per cent of this is taxable. Retired life still needs to be run in a disciplined way especially in terms of the expenses incurred barring the ones that are health related. An individual has to chalk out a plan of cash flows and strictly be adhered to.

This way one could plan the maturities of insurance plans, the withdrawals from PF accounts and other retirement incomes. While making any further withdrawals, one could just check the tax slabs during a particular financial year so as to not to end up in the higher tax liability. Thus, the withdrawals have to be timed other than for any exigencies.