Overview of NPS (National Pension System)

All those who are risk averse & prefer to invest in safe instruments, NPS is a better option than plain vanilla FDs / RDs / Post Office savings / PPF.

Obviously this may not be as attractive for investors who are already investing in Mutual Funds / Equities & benefit from superior returns over long term.

It has an element of equities & depending on one’s comfort level, one can opt for 0-75% allocation.

The NDA government is a big advocate of NPS. They have been constantly making tweaks to make this attractive & includes trying to bring it at par with other  instruments from a tax standpoint (PPF / EPF).

Here are some good to know things about NPS:

Account Opening:

This can be done online if you have an AADHAR Card. The process is simple and takes not more than an hour. Your “PRAN- Permanent Retirement Account Number” & a card will be dispatched within 3-5 working days.

Check out this link: https://enps.nsdl.com/eNPS/NationalPensionSystem.html

Account Types:

There are 2 types of accounts:

  1. Tier 1 –  This your retirement account. Investments made here can only be withdrawn at retirement (before retirement with some caveats). Minimum investment is Rs.1000/- per year (reduced from Rs.6000/- earlier)
  2. Tier 2 – is Optional. This is like a savings account & one can invest or withdraw any number of times from this account. This is a good option to park liquid funds / emergency funds.

Investment Options:

At a high level there are 4 broad categories:

  1. “A” – Alternate Investments (REITS, Mortgage based securities, Infrastructure investment Trusts)
  2. “E” – Equity
  3. “C” – Corporate Bonds
  4. “G” – Government securities

Allocation between these asset class can be made through these 2 options:

  1. Active Choice –  here the member can allocate the amount as he / she desires. However, the cap for A is 5% & Equity is 50%
  2. Auto Choice – allocation is pre-determined and linked to the age of the member
Choice Category – starting age 35 years Equity Allocation Corporate Bonds Govt Securities
LC 75 75% 10% 15% From age 36, equity allocation reduces by 4% each year – 3% “G” & 1% “C”
LC 50 50% 30% 20% From age 36, “E” reduces by 2% & “C” by 1 % each year & allocated to “G”
LC 25 25% 45% 30% From age 36, “E” reduces by 1% & “C” by 2% each year & allocated to “G”

Fund Managers

There are 7 Pension Fund Managers who are currently registered with PFRDA & belong to the top Mutual Fund Houses of India. You can choose any one to manage your investments.

Switches

One can switch allocation twice a year for free & fund manager’s once a year without charges.

When can one withdraw & how much?

Ideally on retirement & the amounts are as below:

  1. 60% can be withdrawn as lumpsum
  2. 40% has to be converted into annuity i.e. pension

However, there is a provision to withdraw earlier (50-60 years) & for special situations.

Annuity Service Providers (Pension Providers)

There are 5 Insurance companies to choose from at this point of time (LIC, HDFC Life Insurance, ICICI Pru Life Insurance, SBI & Star Dai-ichi)

Tax Treatment of NPS:

When Investing

  • Up to Rs.2 lacs can be claimed as tax benefit or Rs.50000/- over & above one’s 80C limit of Rs.1.5 Lacs

When withdrawing:

  • Lumpsum – 40% is tax free & 20% is taxed at marginal rates
  • Annuity / Pension is taxed at marginal rates

Charges

This is the key benefit of NPS. Even with new revised Fund Mgmt charges of 0.1%, these are anywhere from 1/10th to 1/25th  of typical mutual fund charges. Hence this is a great product to park one’s liquid / emergency cash.

Additionally, there are nominal charges for record keeping, annual maintenance & transaction charges.

One big call out is that ensure you use a registered bank with NPS to invest as otherwise there are charges of 2-2.5% which will wipe off all the benefits of lower costs. Typically, all PSU & major private banks are in approved list (surprisingly ICICI Bank is not).

Returns

Are comparable to those of leading funds from pure play Mutual Funds.

My Verdict:

NPS is a good investment avenue for the uninitiated and defensive investors (actually savers). It at least provides infltion beating returns if one opts for fair portion of equity.

The product is not as simple & straight forward and moreover not as tax efficient as an Equity Mutual Fund. What’s really bad about NPS is buying annuity where return rates are very poor (currently 6-7%) which is not inflation beating.

For the initiated, Equity Mutual Funds are the best bet. Mutual Funds are tax efficient (zero tax on profits after 1 year) & not as cumbersome and complicated.

Moreover “SIP” while you accumulate & “SWP” while you withdraw during retirement is a great approach. This not only ensures zero tax liability on withdrawal but also superior returns on the accumulated corpus even during retirement days.

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