HUM FAUJI ... Question Answer Session

HUM   FAUJI ... Question Answer Session

Q. Should we apply for commutation of pension? (Surprisingly asked by seniors also!)

A. This has become an ever-green question lately. It is something like asking in general – which car should I buy!!

Commuting, not commuting or partially commuting should be decided entirely on what are your future likely requirements and not merely by just a gut feeling or hearsay, or just because a friend is commuting or not commuting.

If you’re likely to be needing bulk money in future – children’s major educational requirements, children’s marriage, house construction or major renovation, need or desire to travel extensively, big loans to be paid off earliest due to your discomfort with large debt when retiring, etc – you may look at commutation. Commutation doesn’t have to be either 0% or 50% only – you can commute as you wish between 0% – 50%.

However, if you’re likely to need more monthly income rather than bulk, then maybe you do not need commutation or need lesser commutation. In the latter case, you can even commute and invest the bulk amount efficiently to get the monthly income that you need in a more tax-efficient manner. Also remember that DA is never commuted and one gets the DA on full pension irrespective of commutation.


Q. Can I take a tax rebate on interest (under Section 24b) on two home loans at a time? How is this linked to one of the houses being self-occupied?
A. There is no problem in taking a tax rebate on home loans on as many residential houses as you possess provided the laid down conditions for the same are fulfilled – you have the occupation certificate of the concerned houses (implying that the houses are in your physical possession) and the houses are in your name. The total interest rebate is limited to Rs 2 Lakhs per year - balance can be carried over for 8 consecutive years subject to some minor conditions.

Self-occupation of the house has nothing to do with this tax rebate and is connected with how rental received (or not received) by you will be taxed. One of your unoccupied houses is allowed to be treated as a self-occupied house, irrespective of whether you are staying in it or not. Eg, if you have three houses and two out of these have been lying vacant and one is on rent, then the tax treatments will be as follows: one of the vacant houses will be treated as self-occupied (which one will that be, is your discretion and can change from one financial year to the other), the actual rent being received from one house will be added to your income, and a ‘deemed rent’ will be calculated of the third house even though it is unoccupied and again added to your income.

Q. Is Sukanya Samriddhi Yojana (SSY) good enough to be taken for my daughter?
A. SSY is a post office scheme meant to help parents save for their daughters’ future. SSY Account can also be opened in most of the public sector banks as also some private banks like ICICI and Axis banks. The account can be opened for any girl child in India who has not yet attained an age of 10 years. Currently, it offers a tax-free interest at the rate of 8.5%. This scheme scores well over other traditional options such as insurance plans and bank FDs. The final maturity amount would be tax-free while your subscription gives you IT Section 80C tax benefits (maximum Rs 1.5 Lakhs including of other eligible investments). Amongst the disadvantages: it has a very large lock-in till the child attains 21 years of age, though some pre-mature withdrawal is allowed after her 18 years of age; and rate of interest is notified by the Govt every quarter and is neither fixed nor assured for the rest of the term of the scheme.

Is it the best for you? Yes, if you wish to play it very safe. But since the scheme is meant for very long term, typically 11 – 21 years of investing, hybrid aggressive or equity diversified mutual funds will deliver much better returns over such long periods of time while giving you a lot of flexibility of investments and withdrawal, even after accounting for their minor taxation. If you are risk-averse, you can use a 60:40 combination of equity funds and SSY to save for your lovely daughter.

Q. My father passed away leaving some physical share certificates at home which are in his name. What do I do with them?
A. As of today, no shares can be traded on Indian stock exchanges in physical form. Hence compulsorily they have to be de-matted and transferred in your name. You need to have a demat account yourself to effect this transfer. Please find out the ‘Registrar and Transfer Agents’ (RTAs) of each company whose share certificate is held. This is quite easy by googling it. Most of the RTAs have their contact numbers and mail IDs listed on their websites. Give them a mail and ask for the procedure to go ahead. While the general documents required by each are on similar lines, there always are some small changes. Prepare those documents correctly and send to them. It can take up to a month or so for the de-matting and transfer in your name.

Q. Should we fully or partially pre-pay a home loan or continue it to take a tax rebate? 

A. Please remember three things about home loan: compared to all other loans, it has probably the lowest interest rate; in case you are eligible for an interest rebate, the net rate of interest (after catering for the tax rebate) comes out even cheaper; and all the loans are typically front loaded, implying that almost 70-75% of the interest is recovered during the first half period of the tenure of the loan and only 25-30% of the interest is balance during second half. Hence, if your loan is already past the half-time, it may probably not be a good idea to repay it back unless a cash crunch is coming like retirement, taking PMR, large loans already being serviced, big liabilities coming up like children education etc. If it is only the starting period, reducing this large interest liability will be a preferable situation, if you can afford to pay it. Notwithstanding all this mathematical calculation, how much of a psychological burden do you or your wife feel of a loan on you is another issue – eg, at the time of retirement, almost everybody wants to be loan-free. So many moving parts are there and decision taken has to be a combination of maths (left brain), and personal comfort level and emotions (right brain).

Q. How much should one wait more to invest in the stock markets directly or through mutual funds since there will be lots of dips in the markets around the election time?

A. There is no past data to prove that markets will definitely dip during election time. However, there is enough empirical data to prove that markets will almost always behave in a manner contrary to your expectations! Trying to time the markets is listed as the Number One mistake of most investors. Hence, never try to time the markets. The best way to invest it is to invest either after a good research of the fundamental and technical analysis of stocks or, more conveniently, invest through STPs (Systematic Transfer Plans) for bulk investments and through SIPs (Systematic Investment Plans) for monthly investments in selected mutual funds.

[The above question was asked and answer given well before the elections. How true has it turned out to be, simply because this is an ever-green way of investing always and every time!]

Q. This is my retirement corpus and my life-long savings. I should keep it absolutely safe and risk free. So tell me where to invest this amount?

A. The common rule of investing says the following:
 
Please peg all your investments against general inflation. Taking average long-term inflation in India to be about 7% per annum (last 20 years’ average is about 7.47% CPI), your investments as a whole should earn at least 7% to break even or actually earn a Net Zero. Only when your long-term post-tax returns go above 7% are you actually generating positive returns from your money and the real value of your money is positive. So, if your SCSS (Senior Citizens’ Savings Scheme) gives you 8.7% interest, is fully taxable and you are in 30% tax bracket, you are getting only 6.1% net returns after tax. This also means that your money is actually losing its purchasing power at the rate of 7.00 – 6.1 = 0.9% per annum compounded. The report card of bank FDs, PO MIS (Post Office Monthly Income Scheme) etc is much worse.

So, if you do go in for such ‘safe’ avenues, you should balance it out by going in for some volatile avenues too like equity mutual funds so that your money, on the net, earns a positive return and doesn’t lose its purchasing power. However, it does not mean an all-out investment in equity or risky avenues. Please keep a balance. This is your life-time savings and you may not get this kind of money again in your life. The money should largely be in safe investments like SCSS and Debt mutual funds but a small portion, say about 30-35%, should also go to equity mutual funds, subject to your risk aptitude and capacity scientifically assessed. Please take the help of a good financial advisory company, to manage your portfolio so that this balance of ‘Returns Vs Safety’ is carefully worked out, regularly monitored and changes are done to it professionally when due and required.
 

Q. How does taxation work in Mutual Funds (MFs)?

A. MFs are of two types - Equity or Equity Hybrid Funds, which invest at least 65% of the money in stock markets, and the Debt or Debt Hybrid Funds, which either do not invest or invest a very small percentage of money in stock markets. Their taxation is quite different as given below.

In case of Equity or Equity Hybrid Mutual Funds, if units are redeemed before one year of investment, the gains (profits) are considered as Short-Term Capital Gains (STCG) and will be taxed at a concessional flat rate of 15.60%. If they are redeemed after One year, the gains are treated as Long Term Capital Gains (LTCG) and such gains will be taxed at a concessional flat rate of 10.40% but the first One lakh of gains in one financial year will be tax-free.

In case of Debt or Debt Hybrid Mutual Funds, if units are redeemed before 3 years, the gains will be considered as STCG, will be added to your income and shall be taxed as per your tax slab, like in a bank FD. If they are redeemed after 3 years, the gains will be considered as LTCG and will be eligible for Indexation benefits (like in real estate) where net tax liability keeps coming down as per Inflation over the years with the passage of time. For example: say Col XYZ invested Rs 1 Lakh in a Debt Fund in January 2014 and its value is Rs 1.5 Lakhs in November 2017. This means a net gain of Rs 50,000 after 3+ years. However, since the investment has been held for more than 3 years, Col XYZ is eligible for indexation benefits. The Govt lays down the CII (Cost of Inflation Index) Table from time to time. In the example here, the indexed purchase value inflates to Rs 1,24,000 from Rs 1L due to inflation. Hence, the gains of Col XYZ for the purpose of tax is (Sale value - Indexed Purchase Value), which turns out to be Rs 26,000 (1.5L-1,24,000) and not 50,000 (1.5L – 1L) as it would have been in say, a bank FD. The tax liability is Rs 5,408 (Rs 26,000*20.80%) which effectively comes to 10.81% of tax even if he is in the 30% tax bracket. Please note that in a bank FD or similar kind of avenue, he would have paid a total tax of Rs 15,450, almost three times what he’s paid in debt mutual funds. Had Col XYZ kept the funds for an even longer time, his tax liability would’ve further kept coming down with inflation over the years!

Q. What part of the retirement corpus is tax free and what is the tax on the balance? What part of the pension is tax-free if you get a disability? How much disability pension do you get?

A. Your retirement corpus comprises of five components – Gratuity, AGIF/NGIS/AFGIS payback, leave encashment, DSOPF balance and commutation amount, if any. All of these five components are fully tax-free without any ifs and buts. When one gets a disability pension, there are two components – the service pension and the disability pension. Both the components are fully tax-free if the retired armed forces person is getting a disability pension. Similarly, all gallantry award holders have their pension fully tax-free. However, after the officer passes away, the tax-free benefits are not extended to the families of disability pensioners.

For 100% disability, 30% of additional pension is granted as disability pension. For a lesser disability, the disability pension is accordingly calculated on pro-rata basis. The Govt has also done broad banding of disability. For disability up to 50%, 50% disability pension is given; 51-75%, 75% disability pension is given and 76% and above disability gets 100% disability pension.

Q. If Modi Govt doesn’t come back to power, markets will surely crash. Will it not be a good time to invest then?

A. Stock Markets neither work on crystal gazing, nor on political affiliations. They simply work on the performance of economy in general and of individual companies in particular. The markets boomed in general in UPA-1 regime and were generally subdued in UPA-2 regime, when the political party in power was the same. Currently Indian economy is on the upswing and likely to be one of the best performing economy in the world in times to come. If it remains so, markets will do well irrespective of the political scenario. Indian economy has come a long way in the past decade or so and it will be difficult for any political party to either ignore the aspirations of the people or not bother about the economy’s health.

Also, how much are your investments going to be affected by the health of the stock markets is another moot point. If you are going to be invested fully or largely in say bank FDs and debt mutual funds, you should be more bothered about the direction of interest rate movements rather than the stock market!

[Above answer was given well before the elections took place. Modi Govt has come back. But please remember that corporate performance only will define the direction in which stock markets and interest rates will move.]

Q. How much retirement corpus and pension am I going to get when I retire?

A. As on today, a Col retiring at the age of 54 years gets about Rs 55 Lakhs as the retirement corpus + his DSOPF accumulation, assuming he does not commute any pension. The pension received, without commutation, will be about Rs 1.15 Lakhs per month. If he commutes 50%, he will get an additional Rs 55 Lakhs or so and his pension comes down to about Rs 63,000 per month. Please remember that these are very broad ballpark figures, would vary slightly depending on your rank and years of service, and would be more if one is retiring as a Doctor since the NPA forms part of the basic salary.

Q. Is it good to go in for a property as an investment with a part of the retirement corpus since the property prices are quite depressed right now?

A. First thing to remember is that the old structure is changing in the country. Old-time ‘physical’ assets like real-estate and Gold have not performed for a long time and may not do so for quite some time to come. Secondly, ‘financial’ assets are becoming more prominent since they have better liquidity and returns now, and hence, are able to meet our enhanced life-styles and requirements better.

Real estate in India thrived on black money resulting in the property prices zooming up to unsustainable, artificial highs. With a sustained clampdown on the black economy, property as an asset class has floundered. To top it, there is a huge demand-supply gap which has built up all across the country and it is estimated that in most of the major metros, next five years’ residential property demand is ready and waiting for buyers while new supply further keeps added to it. This is not what a good investment avenue should be like. Investing life-time savings into such an avenue is not recommended.
Ideally, have a good house to stay post-retirement and invest the balance in ‘financial assets’ which provide you good liquidity so that you can have a high level of life-style that you desire post-retirement.

Q. Should serving or retired armed forces officers go in for National Pension Scheme (NPS) since it gives an additional tax rebate for Rs 50,000?

A. NPS is a retirement product which is designed to give monthly pension from 60 years of age. Hence, treat it as such – the additional tax saving on contribution of Rs 50,000 per year in NPS is just the icing on the cake, and should not become the cake itself. In NPS, investment is made till the age of 60 years.  The contributions are invested in a suitable combination of asset classes, primarily Equity, Government bonds, and Corporate bonds.
NPS has some drawbacks as below:
· Liquidity is an important facet of any investment. In NPS, you will not be able to withdraw until the age of 60 years except in special circumstances. Hence, treat NPS as a true-blue retirement product and do not confuse it with an investment product or your PF equivalent.
· You can withdraw up to 60% of the lump sum accumulated at the age of 60 years tax-free. Balance money is locked-up for life to give you pension (called Annuity here). The pension is fully taxable when it starts.
·  The worrying clause is that the Annuity has to be taken from a life insurance company. Annuities are high-cost, low-return products of life insurance companies.
·  While much is made of the very low fund management charge, there are multi-level charges at various offices and levels of the NPS system, the cumulative effect of which make the NPS a more expensive system than it appears at first glance. And over the years, these costs have been slowly and steadily going up.
Just because NPS contributions are eligible for income tax deduction initially, does not make it an attractive investment avenue. While selecting any investment avenue, three things need to be analysed - safety, liquidity & returns. Assess yourself if you need NPS in light of the facts brought out above.

If you are not likely to have any pension after your retirement, then NPS is one of the best products to have in your portfolio for retirement purpose if you do not much understand markets and want a hassle-free product. However, if you are slightly market savvy, a portfolio consisting of mutual funds along with an ELSS (Equity Linked Savings Scheme) or the Retirement Schemes of the Mutual Funds can better meet your retirement needs with more flexibility in terms of investment and withdrawal, better taxation and good returns.


Q. I have about Rs 30 Lakhs in DSOPF, am subscribing Rs 60,000 per month further and putting about Rs 20,000 in Mutual Funds (MFs) as SIPs. I have put in about 18 years of service and have another 14 years to retire in the current rank of Col. Is my subscription level for DSOPF and MFs correct or needs to be changed?

A. You have a long time to go before retirement and already have a large DSOPF accumulation. While DSOPF is a hassle-free simple investment product, the returns, in spite of the tax-free status, are just slightly above the inflation level. Taking DSOPF returns to be average 8% and inflation to be average 7%, you get ‘net real’ returns of just 1% per annum. Hence, it is important to diversify into higher yielding instruments. A largely equity Mutual Fund portfolio which balances your pure debt DSOPF Fund is required so that you get better ‘real’ rate of returns. While you are already doing that with your SIPs to some extent, the contribution to SIPs is very less compared to your DSOPF monthly subscription. We would recommend you at least an equal contribution of Rs 40,000 per month in each, DSOPF and a carefully-prepared and well-monitored MF portfolio with a predominantly equity bias due to your age and the fact that you already have Rs 30 Lakhs in DSOPF.

Q. I have a house which is in my possession. I’m not likely to stay in it for a long time. Should I spend money in taking a house insurance – I have a tenant in the house and none of my household items are lying there.

A. Your house is undoubtedly the costliest asset that you’re likely to have. Catastrophes like earthquakes and other natural calamities can do irreparable damage to the same. It is only to protect you and your house from such unforeseen circumstances that a house insurance policy becomes crucial.  It enables you to financially recover from the loss and rebuild your home. And the cost of such policies is very small on a yearly basis. You can even insure your house for up to 10 years at a time for a small premium.

The policy covers your house(s) from natural disasters like earthquakes, floods, etc as also man-made hazards and anti-social activities like vandalism, thefts, strikes, riots, and other activities caused out of malicious intent. Apart from covering the structure of your house, house insurance companies also offer policies to provide coverage against loss/ damage of articles/contents kept inside the insured house. These include various valuables, expensive and important belongings like documents, jewellery, clothing, appliances, furniture, and much more. We strongly recommend you to take such a policy for the house(s) that you own.

Q. We as armed forces officers have complete medical cover whether serving or retired. Should we take a Critical illness and Disability insurance cover?

A. A critical illness or disability can deplete one’s finances without warning due to being heavily money intensive, even if you have the advantage of having the facility of military hospitals. There are so many expenses like second medical opinion, medical tests not readily available in the military hospital you are dependent on, special medicines not available in the military hospitals or which need to be imported urgently, health supplements, cost of employing attendants,  special foods etc, where you may have to spend your own money. In case you have a family history of any critical illness or are prone to conditions which might lead to critical diseases, we recommend you to take critical illness cover for sure so that you and your family is covered against life threatening diseases and do not have to face financial burden at times of severe health issues. We also recommend you to take a disability cover for total/partial disabilities which could come unannounced in your life due to accidents or diseases. Disability insurance replaces a part of one’s income when someone is unable to work.

To protect both your income and your family in such situations, we recommend you to cover yourself against both. Though they protect you from a possibly big calamity, they cost surprisingly low in yearly premiums.

Q. Is Equity Linked insurance a good idea?

A. When you talk about equity linked insurance, it can have two connotations.

First is ULIP (Unit Linked Insurance Plan) which is offered by the insurance companies and is a combination of Life Insurance cover and Equity (ie, stock market) and/or Debt (safer investments). It is a bundled product. We do not recommend anybody to go in for a ULIP in spite of the charges having come down lately due to many reasons – they are still very expensive (up to 300% more expensive than a comparable combination of mutual funds and term insurance plan), opaque products with very little transparency on management and portfolios, a lock-in of 5 years so that you cannot get out even if it doesn’t perform well, and you are stuck to one particular fund management team.

Second is the free insurance cover being given in some of the mutual fund schemes when you invest there. In case you subscribe to any of such limited number of schemes, the insurance cover comes free to you and you actually don’t pay anything over and above the cost of the investment. Obviously, this is something good but has its own terms and conditions which generally come into play if you exit the scheme before a laid down time period. The insurance cover being offered is also a multiple of the investment that you do in that scheme. There is nothing negative about it but please do not subscribe to such schemes for the insurance cover - subscribe only because the schemes per se are good and meet your portfolio and future financial goals requirements. Cart cannot be put before the horse!

Q. Do I need a life insurance cover as a serving officer since I get AGIF cover of Rs 75 Lakhs?

A. Please understand that the basic aim of life insurance is to cater for financial needs of your surviving dependents in case something happens to you as bread winner of the house. In case you do not have anybody who is financially dependent on you and your earnings, you do not need ANY life insurance.

A situation could be that your wife is financially dependent on you now but after you, your family pension, income from other sources as also from other assets like mutual funds, will or can still comfortably take care of her, you don’t need to take any life insurance cover. This generally happens after retirement when all your financial liabilities (generally towards the children and pertaining to a house for yourself) are over and the aim remains only to have a good standard of living.

On the other hand, if you have your children and/or parents dependent on you and their lifestyle or future requirements would be in jeopardy if something happens to you, please take adequate life insurance cover for an appropriate duration. We at Hum Fauji do a complete life planning of the officers and their families, and sometimes do recommend officers to take additional life insurance cover beyond what AGIF/NGIS/AFGIS offer, due to their large requirements or commitments coming up in future which will be in jeopardy if something were to happen to them.

 

 

 

Happy Investing

Source : Humfauji.com