With the Budget plugging the tax break on guaranteed income plans from insurers, annuity plans are back in the picture as the go-to option for investors seeking guaranteed payouts after retirement. LIC has recently relaunched its popular deferred annuity plan as New Jeevan Shanti (Plan No. 858).
Let’s see how good the plan is and how it stands against competition in today’s Prime review.
Annuity is a contract between you and the insurance company in which the company agrees to pay regular income to you for a long period, in exchange for an upfront payment from you. There are annuities with and without death benefits or return of purchase price. LIC’s New Jeevan Shanti provides a death benefit. The main difference between annuities that pay a death benefit and annuities that do not is that, in the former, returns (called annuity rates) will be lower.
Features of LIC New Jeevan Shanti
- The minimum and maximum age at entry of the policy is 30 and 79 respectively.
- Minimum purchase price is Rs.1.5 lakh. If the plan is purchased for a dependent person with disability, the minimum purchase price is Rs 50,000. There is no maximum limit.
- Minimum deferment period (time between purchase of policy and start of annuity) is 1 year. Maximum is 12 years.
- Minimum vesting age (age at which annuity payment starts) is 31 years, maximum is 80 years.
- The policy allows yearly, half-yearly, quarterly, and monthly annuity payments. But annuity rates are reduced by 2%, 3%, and 4% respectively for half-yearly, quarterly, and monthly payouts compared to yearly payments.
LIC’s New Jeevan Shanti provides 2 options:
Option 1: Deferred annuity for single life – here, annuity payments (after the deferment period) are made as long as the single investor is alive. When the investor dies, death benefits will be paid to the nominee.
Option 2: deferred annuity for joint life – here, annuity payments (after deferment) are made to the joint investor who survives. Death benefits are payable to nominees on death of all joint investors.
Death benefit in this policy is the higher of:
- Purchase price + accrued additional benefits – total annuity payable
- 105% of purchase price
Where additional benefits per month = (purchase price * annuity rate p.a. payable monthly) / 12
Additional benefits are accrued till the end of deferment period.
The death benefit can be paid in one of the 3 modes below:
- As a lumpsum
- Annuitisation: In this case, an annuity will be paid using the death benefit as purchase price.
- In instalments: In this case, the death benefit will be paid over a period of 5 years.
#1 Incentives for higher purchase price
The policy offers incentives in the form of higher annuity rates for higher purchase prices (upfront payment). The incentives are given in 3 slabs for purchase price:
- Rs.5 lakh to less than Rs.10 lakh
- Rs. 10 lakh to less than Rs. 25 lakh
- Rs. 25 lakh and above
Maximum incentives are payable for purchase price of Rs.25 lakh and above.
In our calculation, for a 50-year-old male, purchasing the annuity with a one year deferment, the annuity rates (yearly annuity payout / upfront payment) are higher by 0.3%, 0.4%, and 0.43% in slab 1, 2, and 3 respectively compared to a purchase of less than Rs.5 lakh.
# 2 Incentives for direct sales
A rebate of 2% by way of increase in annuity rate is applicable for policies bought online.
# 3 Surrender
A negative with many annuity plans is the lack of option to surrender. But Jeevan Shanti allows surrender at any time after the purchase. The guaranteed surrender value varies from 75% to 90% of purchase price. For more details, refer to policy brochure, page 9
# 4 Loan
Should you need cash after buying the policy, Jeevan Shanti allows taking a loan. This is subject to a maximum of 80% of surrender value. The interest payable shouldn’t exceed 50% of the annuity amount. For more details on the loan facility, refer to the policy brochure, page 9
How good are the annuity payments?
There are mainly two ways we can look at an annuity plan:
- Annuity amount – this is the annuity payment received for a fixed initial purchase price.
- IRR – this is the internal rate of return from the plan through its life.
Here, we will look at both parameters and compare them with competing plans.
For all comparisons, we considered the case of a 50-year-old male, buying a deferred annuity with a purchase price of Rs 1 crore. The deferment period is set to 10 years. (That is, annuity payments start at the age of 61, i.e., by the end of 10th year). Annual annuity payments are considered as they provide the maximum payout.
The table below shows the comparison between New Jeevan Shanti and competing plans from other insurers. As you can see, the LIC’s New Jeevan Shanti provides higher annuities than competing plans, for the same purchase price.
To calculate the IRR, we will use the same assumptions as above on the age and deferment period. We assume annuity starts at age 61 and continues until age 85. Death benefits are assumed to be paid as a lumpsum. A total of 25 annual annuity payments will be done before death benefits are due. In this case, the IRR works out as below.
Here too, LIC’s New Jeevan Shanti scores above peers. To see more details on IRR calculation, see the spreadsheet LIC New Jeevan Shanti vs peers.
To defer or not?
Many reviews of annuity products in social media talk, not of IRR, but of annuity rates which is a simple percentage of the yearly annuity to the purchase price. Annuity rates are usually higher if you defer your annuity for longer periods.
But this is a flawed way of assessing an annuity because there's an opportunity cost to locking up your money with the insurer during the deferment period, when you earn no returns. The insurer is able to make higher payouts with longer deferment periods because of the returns it earns on your money, during the deferment period.
If we apply IRR instead of annuity rates to assess the benefits of deferment, we find that the shorter the period, the better the returns for you. Table below shows the IRR for different deferment periods for a 50-year-old male, buying the policy for Rs.25 lakh. Life expectancy is assumed to be 85 years. If you apply the online purchase rebate, IRR for all deferment periods will be slightly higher.
IRR is including death benefits as calculated based on purchase price. To see more details on IRR calculation, see the spreadsheet LIC New Jeevan Shanti Deferment.
We can see that the IRR is slightly lower in the longer deferment period, despite the annuity payment being higher. This argues for hanging on to your capital and compounding it on your own as long as you can, while opting for a short deferment period. Here’s our calculation to show how this works.
If you opt for deferred annuity
Do note here this is the long-term death benefit. During the deferment period and for a few years (equal to the deferment period) after annuity payments are started, the death benefit will be higher.
If you invest the purchase price & opt for 1 year deferred annuity
Do note that the below calculation does not account for the change in debt fund taxation that came into effect from 1st April 2023. Indexation benefit does not apply for investments made from April 1, 2023 onwards. You can read all about this tax change in our article, ‘Tax changes in mutual funds: How to manage your investments now‘
Do note here that:
- Tax is calculated by applying capital gain tax at 20% after indexation. Inflation is assumed to be 5% per year. (Do note that the long term capital gains taxation is available for only the investments done before 1st April 2023. For investments done on or after 1st April 2023, the capital gains are added to the income for taxation, irrespective of holding duration.).
- The death benefit is the amount applicable over the long term. During the deferment period and for a few years (equal to the deferment period) after annuity payments are started, the death benefit will be higher.
As you can see, apart from generating the same annuity, investing on your own and using a shorter deferment period will give you access to the cash you defray on the purchase price when you need it. When you lock it into a deferred annuity plan with the insurer, you’ll need to take a haircut on surrender.
You can opt for a longer deferment period if:
- You have the capital and do not need income for the deferral period and
- You do not wish to manage the investment by yourself or take a call on future interest rates.
If you have decided to buy an annuity with death benefits, LIC’s New Jeevan Shanti scores well among the peers in this space.
But annuity plans per se, whether deferred or immediate, are not great products compared to the regular income alternatives available in the market.
- As per current tax laws, annuity income is taxable at your slab rate. This is inferior to the debt mutual fund taxation, where only the capital gains part of the amount withdrawn is taxed.
- Central government and State government bonds, which have the same taxation as annuity, offer much higher yields. Since there are auctions with up to 40-year maturity, they can be a serious alternative to annuities for retirement income. In the recent auctions, a central government bond, maturing in 2062 had an indicative yield of 7.39%. A state government bond, maturing in 2053 had an indicative yield of 7.6%. Do note that government bonds interest is taxed similar to annuity income and is safer as there’s a sovereign backing. (read Three use cases where g-secs score for more information)
- If you don’t plan to leave a legacy, you can buy an annuity without death benefits. These have higher payouts. If you manage a retirement portfolio on your own, you can include equity which can generate higher returns with superior liquidity and help deal with inflation risk.
It is important to remember that LIC’s New Jeevan Shanti (like all annuity plans) provides a fixed annuity, that is, the payout remains the same. Thanks to inflation, your expenses will not. If you are considering buying this product for retirement income, make sure you have a plan in place to meet the rising expenses in the future.