Saving for old age is one of the important aspects of financial planning wherein one needs to save in their young age to enjoy their desired post-retirement period. In India, the concept of pension was earlier restricted only to the government sector employees as there was no such provision for employees who were working in non - government sectors. Getting pension at the ripe age post-retirement is indeed the best thing as the retired employees can lead a financially stable life.
What is the National Pension System?
The National Pension System (NPS) is one of the government-sponsored pension schemes which was launched way back in 2004 and was specifically meant for government employees only. The Pension Fund Regulatory and Development Authority (PFRDA), the regulatory body for the pension sector in India had launched the National Pension System (NPS) in January 2004. But in May 2009, the scheme was opened to all the other sections of the society (employees of public, private, unorganized sector) for encouraging them to invest in a pension scheme at regular intervals during their tenure of employment voluntarily.
This scheme helps the working people to set aside a set of money for their retirement during their course of employment. After retirement, the subscribers can withdraw a certain percentage of the accumulated corpus and the NPS account holder can receive the remaining money as a monthly pension payout post-retirement.
The scheme is convenient across the jobs and it comes with additional tax benefits under Section 80C and Section 80CCD of Income Tax Act 1961.
The government in a move to encourage people from the unorganized sector to save voluntarily for retirement has launched a co-contributory pension scheme, named as Swavalamban Scheme during the Union Budget 2010 - 2011.
The NPS matures when the account holder turns 60 years and the same can be extended until the age of 70 years.
The subscriber of NPS will be allotted a unique Permanent Retirement Account Number (PRAN) and the number will remain the same for the entire life of the subscriber. The PRAN can be used by the NPS account holder from any part of the country. The PRAN provides access to two personal accounts and they are
Tier I Account
This is a non-withdrawable account which is meant for savings for retirement (up to 60 years). It carries a tax deduction under Section 80C of the Income Tax Act up to Rs 1,50,000 per annum and gets additional tax deduction of up to Rs 50,000 per annum under Section 80CCD (1B). On maturity, 60% of the corpus (tax - free amount) can be withdrawn and the remaining 40% should be compulsorily used to buy an annuity.
Tier II Account
This is a voluntary savings facility. In this case, the subscriber of the account is free to withdraw savings from this account as per their requirements but the only drawback is there will be no tax benefits for this account for employees who are working in private sector and for self-employed. This account can be opened only if the subscriber has a Tier I account.
Who can join the NPS?
- All the Indian citizens who are aged between 18 - 55 years can join the NPS.
- Employees of Central Government
- Employees of State Government
- Corporate Employees
- Employees working in Unorganised Sector (exception these employees should not be covered under Employees Provident Fund and Miscellaneous Provisions Act of 1952, Coal Mines Provident Fund and Miscellaneous Provisions Act of 1948, Assam Tea Plantations Provident Fund and Pension Fund Scheme Act 1955, Seamen's Provident Fund Act of 1966, Jammu and Kashmir Employees Provident Fund Act of 1961).
Features of NPS
As of now, the range of equity exposure for NPS is capped up to 75%. For government sector employees, the cap is fixed at 50%. The prescribed risk range on the equity portion will decline by 2.5% every year starting from the year the subscriber turns 50 years. For an investor who is aged 60 years and above, the cap stands at 50%, stabilizing the risk-return equation in the interest of the investors - making the corpus secure from the volatility of the stock markets. The returns of NPS is potentially higher when compared to other forms of investment schemes.
Return on Investment
A portion of investment in NPS will go towards equities which may not fetch guaranteed returns. Despite this, the returns from NPS is on par when compared with the traditional form of investments like PPF or FD. So far the scheme which has been active for over a decade has delivered returns in the range of 8%-10% annually. In the case of NPS, the subscriber is allowed to change the fund manager if you are not happy with the performance of the fund.
NPS Scheme does not provide an opportunity for its subscriber to withdraw full amount post-retirement (after attaining 60 years). They will have to set aside a minimum of 40% of the corpus amount mandatorily to receive a regular pension from a PFRDA registered insurance company. The remaining 60% corpus can be withdrawn post-retirement and is tax-free as per the Income Tax Act of 1961.
Subscribers can get up to Rs 1.5 lakh per annum as tax benefits for a contribution made towards NPS on an annual basis (also includes employer contribution).
Under Section 80CCD(1) - the self contribution made by the subscriber will be covered and the maximum deduction available under this section stands at 10% of the salary but not more than the said limit. In the case of the self-employed taxpayer, the limit is set at 20% of gross income.
Under Section 80CCD(2) - it covers the NPS contribution made by the employer which will not form a part of the Section 80C. This benefit cannot be claimed by the self-employed taxpayer.
The maximum amount of deduction eligible under income tax will be the lowest of the below:
- Actual NPS contributed by the employer
- 10% of Basic + Dearness Allowance (D.A)
- Gross Total Income
Additionally one can even claim for any self contribution made additionally up to Rs 50,000 under Section 80CCD(1B) as NPS tax benefits.
On an all under NPS, the subscriber can claim for deductions up to Rs 2 lakh in total per annum.
How Does NPS Work?
The National Pension System provides three intermediaries namely a point of presence to collect funds, fund manager to handle the investments (based on your decision) and a record-keeper to keep track of investments.
The subscriber can select a list of fund manager from the pool of players - SBI, UTI, ICICI Prudential, LIC, IDFC, Reliance Capital, Kotak Mahindra and Birla Sunlife.
Please Note: Annual Portability is allowed free of cost.
The subscriber can choose the investment mix between equity, debt, government securities based on their financial goals. An auto choice is also present, wherein the equity-debt mix varies based on the age of the investor. The subscriber will have an option to change the investment decision annually.
An investor can withdraw a partial contribution of 25% before they turn 60 to meet specific expenses like purchase of a house, serious medical conditions or for meeting children's education expenses.
The invested money will be locked in till you turn 60 years and on retirement, you can be entitled to lump-sum payment and at least 40% of the amount must be used to buy annuities which will fetch you a regular monthly pension.
Unlike the traditional form of investment like PPF, FDs, NPS offers a finely tuned package which pitches investors to park their funds in both equities and debt funds and thus provides all the required facilities for retirement savings - at the time of investing, post-retirement and even while utilizing the savings.
A retirement scheme should be evaluated based on the safety, returns, liquidity and tax efficiency. This pension scheme, backed by government acts as a mandatory as well as a voluntary one so that anyone can use it (government, public, private, unorganized sector employees). The availability of tax benefits also acts as a major incentive for retirement savings.
About the Author
Archana is a Content Writer at GoodReturns. She has been writing articles related to investment planning and personal finance for more than two years.