NPS or National Pension Scheme does not draw the much needed attention that it deserves as a wholesole pension product but is rather invested in to avail that extra tax deduction of Rs. 50000 under Section 80CCD (exclusive to the NPS). However, NPS can be instead looked up as a top up to one's overall retirement corpus which can be a real source of pension funds during your retirement years and is typically beneficial for those employed in the unorganized sector or entrepreneurs who cannot maintain a provident fund.
Here are detailed the various aspects of an NPS account and how you can make the best out of it through optimal asset allocation and withdrawal strategy:
How to start investing in NPS?
Similar to a bank account, NPS account managed by the PFRDA can be opened offline or online. In an online mode some of the forms need to be filled and then sent back to the centralized office. Post which NPS subscriber gets PRAN which is his or her identification number for all future transactions in the account.
Typically to keep the NPS account running a minimum of Rs. 1000 needs to be invested per year and there is virtually no upper limit. And this amount gets locked until subscriber is 58 years in age.
Deciding the right asset allocation in NPS Tier I account
Essentially, NPS Tier I account is a retirement or pension account wherein you contribute a defined sum and the returns from the investment during the tenure are as per the underlying assets and overall asset allocation under the plan.
Now depending on the extent to which you wish to control your NPS investment, there are available 2 choices- Auto and the other Active choice
1. Auto choice: In it the subscriber does not need to make any asset allocation decision and is typically for those subscribers who do not have the acumen or time to manage their pension fund Instead there are 3 life cycle funds(LC) to choose from based on one's risk appetite and the asset allocation in each one is pre-specified.
3 Life Cycle funds under the Auto choice:
Aggressive Life Cycle Fund (LC75): This has an upper cap of 75% of all assets for the equity investment up to age 35 years and as the person ages the equity proportion is reduced to 15% as and when the subscriber turns 55 years in age.
Conservative Life Cycle Fund (LC25): The maximum investment in this life cycle fund of the overall assets is at 25% until age 35 which is later reduced to 5% by 55 years of age.
Moderate Life Cycle Fund (LC50: Here maximum 50% can be put to equity up to age 35 and later it is reduced to 10 percent by 55 years of age.
2. Active option: Here you can decide the assets allocation under the plan actively as per your own preference. What investors need to select here is the pension fund manager or PFM, assets and percentage to be allocated in each of the scheme of the PFM.
Now the 4 asset options under the scheme are equity, corporate debt, government securities and alternate investment funds that include REITs, AIFs and InvITs.
Here the drawback is that equity allocation can be up to 75% which after the age of 50 years is reduced every year by 2.5 percent and is made 50% as the subscriber attains 60 years of age.
Now choosing the optimal asset allocation strategy for your NPS investment can be tied to your overall financial goal as well as age. Here's how you can go about doing it:
1. If aged between 30 and 40 years, you can grab the opportunity and be more aggressive with your contribution in NPS. So, there shall be a larger allocation to equities. And if you already have some provident fund running then during the starting years of your NPS investment, your allocation can and should be more equity oriented provided you are not a conservative investor.
2. And if you are between 40-50 years, you still can have higher allocation to equity provided you also hold debt investments in your portfolio so that the overall returns from the retirement portfolio are reasonable.
So, the basic aspect to take heed of here is that NPS should form the part of your overall retirement portfolio i.e. including investments in other small savings scheme, EPF, PPF etc. and the asset allocation be decided in a way that helps to realize the targeted retirement corpus in the available time.
Say for instance if you are a moderate investor class and have some previous allocation into equity funds of Rs. 5 lakh and Rs. 10 lakh in EPF and PPF fund jointly and have additional 10 lakh that can be put to NPS, how you decide your asset allocation here . Say as a balanced investor you want 50% allocation to equity then you want additional Rs. 7.5 lakh deployed into equity asset class under NPS which can be done by having 75% equity or as much as allowed in NPS given the age-related criterion.
3. Selecting the PFM:
NPS subscribers also need to choose the pension fund manager which if not opted for is taken as SBI Pension Funds. Also, while choosing the PFM, subscribers usually take into consideration the asset under management of these fund house which is the largest currently for HDFC Pension Management Company and SBI Pension Funds for the Tier I equity option. And return wise also there is not way too much different between the fund house and currently is at max 3% between the best and worst performing funds.
4. Choosing the annuity:
Now at the withdrawal stage, in the current NPS scheme 40% of accumulated corpus can be withdrawn tax free, 40% need to be put for buying annuity compulsorily and 20% can be withdrawn as lump sum with tax implication or this can also be used to purchase annuity.
Currently there are 11 annuity providers and these provide the same set of 7 annuity options such as annuity being provided at an uniform rate throughout one's life, annuity fixed for the first 5, 10 or 15 years and then as long as the annuitant is alive. So, the good choice among the different variants can be annuity for life with return of purchase price on the death of the subscriber to the nominee.