Time has come to treat all pension products equally

India doesn’t have a social security system in place, so we are forced to save for our retirement through various products provided for that. However, investors are confused now because there is no taxation parity between these competing products.

For example, products such as Employee Provident Fund (EPF) and Public Provident Fund (PPF) are under Exempt Exempt Exempt (EEE) tax regime.

National Pension System (NPS) and the pension plans offered by insurance companies, on the other hand, are placed under Exempt Exempt Taxed (EET) regime.

Investors of NPS and insurance pension plans are forced to buy annuity using part of accumulated amount and these annuities are taxed as per the income tax slab applicable at that time. However, taxation structure is not equal for the partial withdrawal amount. While this lump sum receipt is tax free on pension plans offered by insurance companies, the same is taxed for NPS investors. Since accumulations in NPS happen over a long time period, partial withdrawal amount will be significant and adding that to taxable income can change the tax slab of investors. This is gross injustice to NPS investors and therefore, needs to be changed immediately.

Pension products from mutual funds are under completely different taxation structure. While investments and accumulations are tax exempt, the tax on final withdrawal depends on the nature of each scheme. If the investment is done through an equity scheme or hybrid scheme with more than 65% equity component, it will be fully tax free. However, capital gains (after taking indexation benefit) from debt scheme or hybrid scheme with less than 65% equity component will be taxable at 20%.

Problem with different taxation structures will crop up once again if investors want to manage their retirement portfolio actively and try to change asset allocations in the middle. Shift between equity to debt and vice versa till final withdrawal are fully tax exempt for NPS and pension plans offered by insurance companies. However, any shift between mutual fund pension products in the middle are treated as tax incidence and therefore, investors are forced to pay tax on that. Hope the current budget will correct this anomaly and will allow mutual fund investors also to shift between different pension products without any tax incidence. Investors’ ability to shift between different pension products is also severely hampered right now.

Though movement is allowed for NPS investors, it is only within NPS structure. It is more restrictive for other products. For example, investors are not allowed to shift from one insurance company to another. Similarly, they are also forced to buy annuity from the same insurer. Investors should be allowed to shift between all pension products without any tax incidence. For example, someone who is leaving a company before 5 years and not joining another company under EPF structure is now penalised. Why should tax department penalise someone who is taking up foreign assignment or starting a new business venture? Solve the 5 year minimum holding problem by allowing the shifting of corpus from EPF to other products like PPF, NPS, etc. To make this movements smooth, government may also have to bring all pension products under one regulator.
Source : ET wealth