The superannuation scheme, also known as pension or provident funds, is an integral part of India's retirement plan. Essentially, these are systems set up by employers to help their employees save for retirement in an organised manner through regular contributions to the employee's account over a period of time (usually their entire working life). For example, if you contribute 6% of your monthly salary to your superannuation fund, you will earn 6% interest on that amount.
Superannuation, also known as the super benefit or retirement account, is an essential financial tool every Indian citizen must know about. In this article, find out more about the wonders of superannuation and how it can help you with your financial goals.
Did you know?
The State Super Schemes are an integral part of our country's history, and superannuation for public sector workers has continued to grow and change since 1919.
Superannuation is retirement savings account you can contribute to from your pre-tax or post-tax income. The money in your account earns you interest until you turn a certain age, at which point you can withdraw it tax-free.
There are two superannuation accounts: accumulation accounts and defined benefit accounts.
- The most common type is an accumulation account - They work like savings accounts in that the amount you have saved is based on how much you have contributed and how well your investments have performed.
- Defined benefit accounts are less common – They provide a set income in retirement, regardless of how much you have contributed or how well your investments have performed. There are also several superannuation tax benefits, making it one of the best ways to save for retirement.
How Does Superannuation System Work?
- India's superannuation system is designed to help workers save for retirement. There are two types of superannuation funds in India: government-sponsored and private. Employees can contribute to either type of fund, but the government-sponsored fund is the most common.
- Employers must contribute a certain percentage of their employees' salaries to the fund, and employees can choose to contribute additional amounts. The funds are invested in various assets, such as stocks, bonds, and real estate. When employees retire, they receive payments from the fund based on their contributions and the performance of the investments.
- The tax benefits of superannuation make it an attractive savings option for many workers.
- Contributions made by employers and employees are taxed at various rates before being deposited into the fund. Investment earnings in a superannuation account are also taxed at different rates, depending on how long they have been invested.
- For example, if you withdraw money after three years, you will be taxed at 10% of the investment income; however, if you withdraw money after five years or more, you will be taxed at 20%.
- All withdrawals (after retirement) from India’s superannuation account incur taxes and other charges except for home loans up to ₹300,000.
How Do You Get Superannuation?
When you start a new job, your employer will automatically deduct a percentage of your salary and pay it into a super fund on your behalf. The money stays in the fund until you retire, which you can access. In the meantime, the money is invested and grows over time.
- There are different types of super funds depending on how your money is invested. Some people have more than one super fund. You can also contribute voluntarily to your super fund if you want to.
- The government provides tax benefits for superannuation, which is why it's such a popular way to save for retirement.
- Contributions you make to your super account reduce your taxable income by up to ₹200,000 to ₹400,000 a year, meaning you'll have less tax deducted from your paycheck. After making those contributions (concessional contributions), earnings from your investments are taxed at 15%.
- Earnings from non-concessional contributions (which don't count towards reducing taxable income) aren't taxed until they're withdrawn from the account - and then they're taxed at 30%.
- Suppose someone withdraws all their superannuation after age 60 or 65 without meeting the eligibility criteria for an early withdrawal allowance (a benefit that allows some people with low balances to take out all their savings), they'll face penalties on top of those taxes.
Types of Superannuation
There are two types of superannuation: Defined-benefit plans and Defined-contribution plans.
1. Defined-benefit Plans
In India, a defined-benefit plan is a type of retirement plan in which an employer promises a specified monthly benefit upon retirement predetermined by a formula based on the employee's earnings history, years of service, and age. The benefit formula is usually designed so that the greater the employee's salary and the longer the employee works for the employer, the greater the benefits will be.
There are two types of defined-benefit plans: final average pay plans and career average pay plans.
- The final average pay plan provides employees with a retirement pension equal to the sum of their annual salaries averaged over their last few years before retirement (e.g., 3 or 5) times the number of these years worked, minus any contributions made to another superannuation fund.
- Career average pay plans provide employees with a retirement pension according to their accumulated superannuation balance at the time of death.
2. Defined-contribution Plans
In India, the most common type of superannuation is the defined-contribution plan. In this type of arrangement, both the employer and employee make regular contributions to the employee's retirement account. Employees' contributions are usually deducted from their paycheck before taxes are taken out. The employer's contributions are made with after-tax rupees. The money in the account is then invested and grows tax-free until it is withdrawn at retirement.
What Are the Superannuation Tax Benefits?
Regarding taxes, there are a few key benefits that superannuation offers in India. For one, superannuation is exempt from income tax. Any money you contribute to your super fund is not subject to income tax. The interest earned on your super fund is also exempt from income tax. And finally, any withdrawals you make from your super fund after you retire are also exempt from income tax. This makes super a great way to save for retirement while minimising your tax burden. Your contributions to your super account will not be taxed, and as long as you follow the rules set by India's Income Tax Act, withdrawal from this account will also be tax-free.
What if I live abroad? Though it might seem an obvious question at first glance, some people live abroad but have investments in India through work or family ties. If this is true for you, contact an accountant who can help figure out how much your contributions will be taxed by India's Income Tax Act and what other options you might have available.
Both Provident Funds and Pension Funds are successful retirement planning strategies. They are different from one another based on specific factors like eligibility, returns, and contributions. Public employees are by default enrolled in a pension fund programme to protect their financial stability. The decision to contribute the funds to another plan after retirement is entirely up to the investor.
One advantage of investing in NPS (National Pension System) and EPF is that tax deductions are available to investors. They receive higher returns and can diversify their investment portfolio. According to experts, an investor should fund their NPS account with ₹50,000 annually.
In conclusion, superannuation is a great way to plan for your retirement. It allows you to save money while receiving tax benefits. It's flexible, offers tax benefits, and there are many different types to choose from. No matter what your retirement goals are, a superannuation option can help you achieve them. There are many kinds of superannuation accounts, so be sure to research which one would work best for you.
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