During your professional career, your salary allows you to manage your day-to-day expenses while at the same time letting you save money for other things. The benefits of increments and bonuses enhance your salary as you work more. However, this luxury is not there once you retire. Post-retirement, you either rely on pensions or on other sources of income based on your investment. Two common sources of income post-retirement are a retirement plan and the provident fund. While their benefit is the same: to help you stay financially stable post-retirement, they are totally different in nature. What are the differences between these two instruments? Read more to find out.

What is a retirement plan?

A retirement plan is a type of life insurance product that you can invest in while you are an earning individual. The plan gives you a fixed monthly income to take of your daily expenses post-retirement. This income is based on how much you invest and the plan you select. Retirement-oriented ULIPs, immediate annuity plans, and deferred annuity plans, all come under this category. These plans are a great instrument to maintain your savings for any major expenses.

What is a provident fund?

Provident funds are retirement plans that are managed by the Government of India. In these plans, working employees can invest a certain portion of their salary. They get an interest amount on this investment which accumulates for a given time period. Withdrawal can be done once this time period is over. Based on how much you invest, you will gain returns accordingly.

What are the differences between these two?

While both plans have benefits for people post-retirement, there are certain differences between these two plans. These differences are:

1. Types of plans

In pension plans, both the govt. and insurance companies are involved. The Indian govt. launched the National Pension Scheme (NPS), to allow a minimum pension amount to each investor once they retire. This scheme is accessible to everyone, and a minimum amount has to be deposited every month in this scheme. Once you retire, you will start receiving a pension in your account. There are two tiers in this plan. The first tier is for govt. employees wherein 10% of their income is deposited in this scheme. This gets compounded with additional benefits that the employees receive. The second tier is for the general public, which is bereft of additional benefits, however.

Apart from govt. plans, there are other pension plans that you can look into. There are ULIPs, which allow you to invest and have insurance cover in the same plan. There are immediate and deferred annuity plans that pay you a fixed monthly income post-retirement. In the latter two plans, the income is based on the invested amount. 

1. Rate of interest

In each type of plan, a certain rate of interest is applied. This ROI gets compounded for the whole duration of the plan and assures you enhanced returns on withdrawal or maturity. For pension plans, the rate of interest varies from 10-15%. This applies to NPS as they are managed by the government. This means the ROI will be fixed unless changed by them. On the other hand, plans by insurance companies have variating ROI depending on the type of plan you invest in. 

In provident funds, the rate of interest is usually around 9%. Compared to pension plans, this ROI is relatively low and may not give great yields on withdrawal. If you were to invest more, that would enhance the returns.

1. Contribution

In NPS, a portion of your salary is automatically deducted by the govt. If you are a non-govt. employee, you can invest a minimum of Rs.6000 in the plan. As a thumb rule of retirement planning, it is essential to keep a track of investments with retirement in your mind. Invest only how much you can manage without going overboard.

The same applies to provident funds. Even though the minimum investment amount is as low as Rs.500, people tend to invest more to gain more. Contributions to either of these plans should be made logically rather than thinking about returns.

These are just a handful of differences. Depending on your preferences, you can choose to invest in either of these plans. Use the retirement calculator to see how much your contribution should be in a pension plan based on your income.