NPS (National Pension System / New Pension Scheme) was launched by Govt of India to extend pension benefits to all Indian Citizens. It was launched in January 2004 for Central Government Employees and the employees of some State Governments to invest in NPS Scheme. However, in 2009, it was opened to all sections. Pension Fund Regulatory and Development Authority (PFRDA) is the regulator of NPS Scheme in India.
What is NPS Scheme?
NPS (National Pension Scheme) is mandatory for Central Government Employees and the employees of some State Governments. It is voluntary contribution plan for self-employed. Any Indian citizen in the age of 18-65 years can join the National Pension System.
The main objective of the NPS is to instill the discipline to save and invest towards an old-age pension. NPS is a defined contribution scheme, where the investment is to be maintained until retirement. On retirement, subscribers can withdraw a part of the corpus in a lump sum and the balance corpus is mandatorily paid out as a pension annuity.
Capital Protection and Inflation Protection
Your capital is not guaranteed by any agency or Government. Part of your contribution amount will be invested in equities. Hence, corpus you receive at the time of retirement is not same for all the NPS contributors. It depends on how much amount is invested in equities and how much in debt. Therefore, the returns are market linked. However, equities have proven record of generating highest returns than any other asset class when you invest for the longer term. Generally, NPS is a kind of closed-end mutual fund for over 30 years (assuming your age below 30). Hence, the returns can be expected above 10 to 12% (Not Guaranteed).
This kind of returns can easily beat inflation over the long term thus building a certain level of inflation protection into the NPS.
Types of NPS Accounts
NPS Scheme works on a defined contribution basis and has two parts: Tier 1 and Tier 2.
Tier 1: This is a mandatory account for government employees as well as voluntary subscribers. This non-withdrawable pension account and is eligible for Tax benefits.
Tier 2: It’s a voluntary investment account. You cannot open Tier 2 NPS account without having Tier 1 NPS account. Subscriber to this account can withdraw his/ her contribution amount anytime they want. It has no tax benefits.
Where to Open NPS Account
You can open NPS account with entities known as Point of Presence (POP). The designated POP’s are SBI, ICICI Bank, Post Offices, IDBI Bank, IL&FS Securities Services, Reliance Capital, Allahabad Bank, Axis Bank, Bajaj Allianz General Insurance, Bank of Maharashtra, Central Bank of India, Computer Age Management Services (CAMS), Kotak Mahindra Bank, LIC of India, Oriental Bank of Commerce, South Indian Bank, Union Bank of India, UTI AMC etc. These are just a few POPs to name. You can find the complete list of POP Here.
The authorized branches of a POP, called Point of Presence Service Providers (POP-SPs), act as the collection points.
How to Open NPS Account
- Visit a POP. Fill out the subscriber registration form and submit it along with proof of identity, address, and date of birth to the POP.
- Alternatively, you can open NPS Online Account Here.
- Once registered, the Central Record Keeping Agency (CRA) will send you a Permanent Retirement Account Number (PRAN) card with a 12-digit unique number.
- Decide the amount of investment you like to invest in NPS account.
- You can download all the required forms here.
NPS Contribution Amount
Government Subscribers:
NPS Tier – 1: Mandatory contribution for government subscribers is the 10% of Basic + DA per month. Employer or Government (as the case may be) will contribute the same amount and invests in subscriber NPS account.
NPS Tier – 2: Voluntary contribution through POP or POP-SP for the government as well as other subscribers. Minumum Rs.1000 at the time of account opening.
Other Subscribers:
NPS Tier – 1: Initial contribution of Rs.500 at the time f account opening. Minimum Rs.1000 annual contribution is mandatory.
NPS Tier – 2: Voluntary contribution through POP or POP-SP for the government as well as other subscribers. Minumum Rs.1000 at the time of account opening.
NPS Fund Managers
NPS allows you to choose your own fund manager from the list of pension fund managers (PFMs) at the time of filling the application. At the moment, there are eight pension fund managers.
Following is the list of NPS Managers:
- ICICI Pension Fund Management Company Limited
- LIC Pension Fund Limited
- HDFC Pension Management Company Limited
- SBI Pension Funds Private Limited
- UTI Retirement Solutions Limited
- Birla Sun Life Pension Management
- Reliance Capital Pension Fund Limited
- Kotak Mahindra Pension Fund Limited
These are the NPS Fund Managers at the time of writing this post. Please do the check the Fund Managers List Here.
Apart from choosing the fund manager for investment, the investor also has the liberty to choose the allocation ratio for investment across different asset classes ranging from equity, debt (excluding G Sec) and government securities with a maximum of only 50% in equity.
NPS Contribution Choice
NPS fund is a mixture of various asset classes like equity, corporate debt, and government securities. Of these asset classes, equity carries the maximum risk followed by corporate debt and government securities carry less risk. Equities also have the chance of offering maximum returns over the long term. Whereas government securities offer least returns compare to equities (I even doubt whether government securities beat inflation).
The NPS offers two choices:
Active Choice Invesmtnent: This option allows the investor to decide how the money should be invested in different asset classes among Equities, Debt and G-Sec options. The maximum allocation towards equity is 50%. The choice of investment and the asset mix in case of active choice should be mentioned at the time of investment. The sum of exposures across each asset class should be 100%. This asset mix can also be changed as per one’s requirement in future at a nominal charge. If you are not sure about the right asset mix, you should go for NPS Auto Choice Investment Option.
Auto Choice Investment or Lifecycle Fund: This is the default option if you fail to choose the investment ratio in active choice. Here investment allocation is done based on the age of the subscriber. Until the age of 35, the equity portion is 50% of the portfolio. After that, equity exposure will be reduced 2% every year until it becomes 10% by the age 55. Whereas, corporate debt portion is 30% until the age 35. After that, it will be reduced 1% per year until it becomes 10% by age 55. Government securities until the age of 35 is 20%. After that government securities portion will increase every year by 3% until it reaches 80% by the age of 55. The provision of cutting down on equity and corporate debt and increasing exposure in government securities is an attempt to reduce the risk as you grow older.
NPS Withdrawal Rules
NPS withdrawal are different for Tier 1 and Tier 2 accounts and taxation is also different.
Tier 1 Withdrawal: In case of Tier 1 account, we should consider 3 cases.
Case 1: Partial withdrawal before Age 60: In this case, after investing for a minimum of three years, you can withdraw up to 25% of the contribution for defined expenses. Please note that you can withdraw, 25% of the contributed amount, not on the accumulated balance in your NPS account. Suppose if you have contributed Rs.1000 per month for last 5 years, your contributed amount could be Rs. 60000. In this case, you are eligible to withdraw Rs.15000 i.e., 25% of Rs.60K. You can make up to 3 withdrawals during the tenor.
These defined expenses are children’s higher education or marriage, construction or purchase of the first house, and treatment of critical illness for self, spouse, children or dependent parents. The regulations have defined 13 critical illnesses and have extended this facility to accidents or for any ailments of life-threatening nature.
An investor can withdraw three times during his tenure in the scheme but there should be a gap of at least five years between each withdrawal. However, this gap will not apply in case the withdrawal is for a medical treatment. Also, the curbs on withdrawals are only for Tier I accounts. Investments in a Tier II account, which can be opened only if you have a Tier I account, can be withdrawn any time.
Case 2: Exit Option before Age 60: If you wish to exit before age 60, you must use 80% of the corpus to buy an annuity. You can withdraw only 20% of the accumulated corpus. The withdrawn amount is taxable as per your income tax slab.
Case 3: Withdrawal at Age 60: When you retire at the age of 60, you are allowed to withdraw 60% of the collected corpus in a lump sum or in a phased manner with a minimum of 10% every year such that on attaining the age of 70 years whatever amount is left must be withdrawn in a lump sum. Remaining 40% of the accumulated corpus must be annuitized through the list of annuity service providers designated by PFRDA. This annuitized amount serves the actual purpose of getting the monthly pension. Also, please note that, if the corpus is less than Rs 2 lakh, the entire sum can be withdrawn.
Tier 2 Withdrawal: Tier-II account can be withdrawn at any point of time as per investor’s requirement. There are no limits on deposits and withdrawals. Withdrawals will be taxed as per your income tax slab.
NPS Corpus after Death belongs to nominee.
How Your Money Builds Up
Let us consider a simple example wherein Mr. A of 30 years old opens an NPS account and invests Rs.1000 per month until the age of 60 that is for the next 30 years. Through the product mix available, he is able to generate an average return of 12%. At the age of 60, the total corpus amount would become Rs.35,29,914. You can withdraw 60% of this amount i.e., Rs.21,17,948 and you can invest the remaining 40% i.e., Rs.14,11,966 in an annuity plan on which you can expect to get 6% interest. Thus your monthly pension would be Rs.7060.
This Rs.7060 may look very small but this is only by investing Rs.1000 monthly. You can invest even more. Unlike the PPF, there is no ceiling on the amount one can invest in the NPS. However, there is a minimum Rs 6,000 that a subscriber must contribute in a year. If you could invest Rs.10000 per month, your total corpus at the age of 60 would be Rs.Rs.3,52,99,140. You can withdraw 60% of this amount i.e., Rs.2,11,79,480 and you can invest the remaining 40% i.e., Rs.1,41,19,660 in an annuity plan on which you can expect to get 6% interest. Thus your monthly pension would be Rs.70600.
Besides, the 40% which is annuitized will be paid to the nominee in the event of the death of the first investor.
Taxation of NPS Corpus
40 percent withdrawals from NPS account are tax-free for those who retire at age 60. Of the balance 60 percent, you will have to use a minimum of 40% to buy an annuity. The remaining 20 percent can be withdrawn in lum sump by paying tax as per your slab or you can withdraw partially from 20% portion to get a tax benefit.
NPS Tax Benefit
Apart from being a retirement planning investment, NPS also offers the tax advantage. For an individual, the contribution towards NPS Tier 1 account up to Rs.1.5 Lakh will be tax excempt under section 80CCD of IT Act in a financial year. Upto Rs.50K deduction is allowed under Section 80CCD (1b) of IT act and can claim additional tax benefit. As a result, citizens who are in the highest tax bracket (30%) can save additional Rs.15,000. This deduction is over and above the overall Rs 1.5 lakh limit under Section 80C.
Tax deductions offered by NPS are:
| Deductible | Maximum limit | Section |
| Mandatory deduction from salary towards retirement | Rs.1.5 lakh | 80CCD (1) |
| Voluntary contribution towards NPS by employer | 10% of basic salary | 80CCD (2) |
| Voluntary contribution towards NPS made by employer | Rs.50,000 | 80CCD (1b) |
National Pension Scheme Advantages
NPS as a retirement planning tool has many advantages over disadvantages.
- National Pension Scheme (NPS) is the most flexible in terms of investment. You can invest any amount of your choice with a minimum requirement of Rs.
- You can choose the investment style, Asset Mix, and investment manager, which is most beneficial to the people. We can identify the best among the given option and choose one. It not a good idea to stick with one manager throughout the tenure. One can perform better over the other. So, it is a good idea to have the investment managers of your choice.
- Features like IPIN and TPIN also add to the accessibility.
- For those who are in higher tax bracket can save up to Rs. per annum in the form of tax exception for investment in NPS.
- Another advantage is that the investor has the option to pick annuity service provider from the list designated by PFRDA.
- Helps build retirement corpus and allow tax exemption under Section 80CCD.
Riskes Involed in NPS Investment
- Value of your investment in NPS may go up or down depending upon the market position.
- Tax laws may change, affecting the final returns.
This is all about NPS Scheme. Its been a very long post. Please do comment if you have any doubts or if you have any objection about the content posted here. I will try to respond ASAP. Thanks.
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