The National Pension Scheme is a government-sponsored social security program. It’s open to employees from the public, private, and even unorganized sectors. The program encourages investors to contribute to a pension account at regular intervals throughout their work lives. After they retire, a percentage of the accumulated corpus can be withdrawn, and the balance will be provided to you as a monthly pension.
Who should invest in the NPS?
The NPS is a fantastic alternative for those who want to start saving for retirement as soon as possible and aren’t afraid to take risks. A regular pension (income) in retirement will undoubtedly be beneficial, especially for individuals who retire from private-sector jobs. Salaried professionals wanting to take a maximum of tax benefits can also choose this plan.
Features & Benefits of NPS:
Returns/Interest:
A portion of the NPS is invested in stocks (this may not offer guaranteed returns). However, it provides much higher returns than traditional tax-saving investments like the PPF.
This program has been in place for more than a decade and has produced annualized returns of 8% to 10%. In case you are not happy with the performance of the fund, you can change the fund manager.
NPS allows you to diversify your investment across four asset classes:
Equities (E)
– The funds are invested in stocks and other equity-related securities of Indian companies.
Corporate Debt (C)
– The funds are primarily invested in Money Market Instruments and Bonds issued by Infrastructure Companies, PSUs (Public Sector Units), and PFIs (Public Financial Institutions).
Government Securities (G) –
– The funds are invested in money market instruments and bonds issued by state and central government.
Alternative Investment Funds (A)
– The funds will be used to invest in new investment vehicles such as Real Estate Investment Trusts (REITs), Infrastructure Investment Trusts (InvITs), Commercial Mortgage-Backed Securities (CMBS), and Mortgage-Backed Securities (MBS), notably.
Choosing Your NPS Investment’s Asset Allocation:
NPS gives you the flexibility to decide how much gets invested in each of these asset classes mentioned above. As a result, you can customize your investment bucket according to your risk profile.
NPS now provides two asset allocation alternatives for every NPS portfolio: Active Choice and Auto Choice.
Let’s take a closer look at both of these alternatives.
Active Choice:
NPS’s Active Choice plan gives you the most freedom in deciding how much of your portfolio should be made up of equity, corporate debt, government securities, and alternative investment funds.
Subjected to certain restrictions –
Maximum allocation permitted towards
Alternative Investment Funds (AIFs): 5%
Equity exposure permitted in NPS:75% up to the age of 50 years.
There is one additional criterion in addition to these two limits. From the time you are 51 years of age, the maximum exposure to Equities allowed under NPS Auto Choice will decrease by 2.5% every year till the maximum Equity Exposure drops to 50%. So, at 60, your Equity Exposure will be 50%.
The NPS Equity allocation limit for Active Choice investors of various ages is as follows:
The main advantage of Active Choice is the flexibility in selecting the NPS asset allocation that you believe is best for achieving your investment goals.
Auto Choice:
The second option allows you to automate the allocation of NPS assets. Auto Choice is based on the idea that as you become older and closer to retirement, you should focus on preserving your wealth by lowering your overall portfolio risk. It is accomplished by adjusting your NPS asset allocation based on your age.
There are three asset allocation models available in NPS Auto Choice. These are known as Life Cycle Funds, and they differ from one another in terms of how much money is invested in each asset class and how modifications are made as you get older.
1. Aggressive Life Cycle Fund (LC75):
You can receive up to 75% equity exposure with the Aggressive Life Cycle Fund until you’re 35 years old. From your 36th year onwards, the NPS Equity allocation is decreased by 4% every year, and that money is moved to Corporate Debt and Government Securities.
2. Moderate Life Cycle Fund (LC50):
It has been the default choice under the NPS Auto Choice option, often known as LC50. Up to the age of 35, if you choose the Moderate Life Cycle Fund, your highest equity exposure will be 50%. From your 36th year onwards, your NPS asset allocation towards Equities will decrease by 2% every year and get reinvested into CD and G-Sec.
3. Conservative Life Cycle Fund (LC25):
The LC25 option is by far the most conservative of all the choices. The Conservative Life Cycle Fund limits your NPS Equity allocation to a maximum of 25% till the age of 35 years. When you turn 36 years of age, the NPS portfolio allocation towards Equities will decrease by 1% every year which gets reinvested in CD and G-Sec.
Withdrawal Rules After 60:
You are compulsorily required to keep aside at least 40% of the corpus to receive a regular pension from a PFRDA-registered insurance firm. The remaining 60% is tax-free now.
Early Withdrawal and Exit rules:
You must keep investing in your pension scheme until you reach the age of 60. However, if you have been investing for at least three years, you may withdraw up to 25% for certain purposes.
These include, among several things, children’s weddings or higher education, building/buying a house, or self/family medical assistance. You can make a withdrawal up to three times (with a gap of five years) in the entire tenure.
These limitations apply solely to tier I accounts and not to tier II accounts.
Types of NPS Account:
Tier I and tier II accounts are the two most common NPS account types. The first is the default account, and the second is an entirely voluntary addition. The two account types are explained in detail in the table below.
| Tier I | Tier II | |
| Eligibility | Any Indian citizen between 18 & 65 years of age | Members of Tier I only |
| Lock-in | Till the age of 60 years | Nil |
| Minimum number of contributions in the year | 1 | Nil (You can choose not to make any contribution in a year) |
| Minimum contribution for account opening | Rs 500 | Rs 1,000 |
| The minimum amount for subsequent contribution | Rs 500 | Rs 250 |
| Minimum number of annual contributions | 1 | Not mandatory |
| Fund management charge | Charges are the same for both Tier I and Tier II accounts | |
| Tax benefits on the contribution | Contribution to NPS Tier I qualifies for tax deduction under Section 80C up to Rs 1.5 lakh.Tax deduction is available under Section 80CCD (1B) up to Rs 50,000 in addition to Section 80C benefits. | No tax benefit |
| Taxation on withdrawal | At maturity, the entire corpus is tax-exempt | The entire corpus can be withdrawn, which is added to income and taxed as per the tax slab one falls in |
The National Pension System is a long-term investment that is designed to secure your financial security once you retire. Asset Allocation’s purpose is to assist you in creating an investment portfolio that minimizes risk while maximizing profits. Thus, selecting the appropriate NPS Asset Allocation will potentially help you in balancing wealth building and wealth preservation; so that you can retire without concern about your financial well-being throughout your senior years.
Account Opening:
There are two ways to open an NPS account:
- By visiting the POP-SP (point of presence service provider) which could be a bank branch, post office.
- Online through the eNPS website using PAN and bank details.
Written by: Arup Kr. Mondal
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