National Pension System (NPS)

NPS is a market-linked pension account in which you can make regular contributions till you retire. These investments are managed by professional fund managers. At age 60, you can withdraw 60 per cent of the corpus, but it is mandatory to buy an annuity with the remaining 40 per cent. This annuity can help generate regular income after retirement.

Through the NPS scheme, you receive the flexibility of choosing your asset classes, the share of each asset class and your participation in the management of your respective portfolios.

You can invest in four asset classes through two investment strategies - and take your pick between active and auto choice strategies.

The following is the lowdown of the asset classes:

• Asset Class E invests in equities or stocks.
• Asset Class C invests in corporate bonds.
• Asset Class G invests in central and state government bonds and
• Asset Class A invests in alternative investment funds like Real Estate Investment Trusts (REITs) and Infrastructure Investment Trusts (InVITs).

Let us look at how you can invest in these asset classes through the active and auto choice investment strategies.

• Auto choice:

  The auto choice is suitable for you if you prefer a passive investment approach. Here, investments are made through a life-cycle based approach. That means, you automatically have a greater exposure to equity when you are younger (less than 35 years). And as you grow older, your equity exposure decreases and debt exposure increases. Here too, you have three options:

  • Aggressive life cycle fund: If you are comfortable with a higher risk factor and want greater equity exposure, you can choose this option. The maximum equity exposure is 75% up to 35 years of age, after which the equity component reduces.
  • Moderate lifecycle fund: This can be a good choice if you are open to moderate risks and want modest equity exposure. The equity allocation is limited to 50% until 35 years of age.
  • Conservative lifecycle fund: If the thought of high-risk investments makes you ride waves of anxiety, the conservative fund can be a suitable option as the equity allocation is capped at 25%.

• Active choice:

  This strategy works best if you want to manage your portfolio actively as you get to choose the share of each asset class. The equity component in your portfolio cannot be more than 75% and that too only up to 50 years of age. After you turn 50, the equity allocation will wane by 2.5% each year until you retire. You cannot allocate more than 5% of your corpus to Alternative Investment Funds (AIF).
  You also have the option to shift gears between active and auto choice once in a financial year.

Read more about: Understanding of Active and Auto choice in NPS Investment

Here are a few things about NPS accounts you must know:

• Returns:

  For Tier I accounts, the minimum amount per contribution is ₹500. Moreover, you have to make a contribution of at least ₹1,000 in a financial year. There is no limit on the number of contributions in a financial year if you are a Tier I account subscriber. For Tier II accounts, the minimum amount per contribution is ₹250. There is no minimum balance requirement.

• Flexibility:

  You can change your fund manager if you are unhappy with the fund's performance. You will have to fill up a form for a fund manager change request. The form can be downloaded online or you can collect it from your nearest Point of Presence. You will have to pay a transaction charge for changing your fund manager. NPS accounts afford you flexibility - you can maneuver your investments across government bonds, corporate debt plans, stocks.

• Risk:

  returns stabilisation:At present, the maximum equity exposure in the National Pension System is 75%. If you are a government employee or if you are more than 60 years of age, it is capped at 50%. Also, once you attain 50 years of age, your equity component reduces by 2.5% each year. This ensures that the risk factor posed by equity market volatilities is softened in the long run.

In NPS, you have the option of being an active investor and monitoring your investment and deciding how and where it should go. On the other hand, the automatic option allows the scheme to divide your funds appropriately through the 'auto' mode, based on your age and other defining factors.

There is no escaping paying taxes, but thankfully there are provisions to reduce your tax outgo that can soften the pinch. Under Section 80CCD of the Income Tax Act, you can claim deductions against your contributions to the National Pension System or Atal Pension Yojana. Tax deductions under Section 80 CCD (1) are available to all individuals irrespective of whether he/she is employed at a government or private organisation or is self-employed. Here are the provisions:

• If you are a salaried individual, the maximum deduction that you can claim under Section 80CCD (1) is 10% of your salary (basic pay + dearness allowance).
• If you are a self-employed individual, you can claim up to 20% of your total gross income.

The deduction amount cannot exceed ₹1.5 lakh in a given financial year.

• Section 80 CCD (1B) is a new subsection that was introduced in the year 2015. Under this, you can claim an additional deduction of ₹50,000 irrespective of whether you are salaried or self-employed for your contributions towards NPS. This deduction can be claimed over and above the maximum deduction of ₹1.5 lakh that can be claimed under Section 80 C. Thus, you can claim up to ₹2 lakh as deduction against your NPS investment.
• Section 80 CCD (2) is applicable only if you are a salaried employee and your employer makes contributions towards your NPS. Your employer's contributions can be equal to or higher than your contributions. You can claim up to 10% of your salary, which includes basic pay and dearness allowance. This deduction can be claimed over and above the deductions claimed under Section 80 CCD (1).

The withdrawal rules of an investment scheme play an essential role in helping investors decide the suitability of a particular investment.
National Pension System withdrawal rules vary with different rules framed for various categories for Government sectors.

• If you are about to retire and are a government or private sector employee: You need to invest a minimum of 40% of the corpus in an annuity. The amount invested on purchasing annuity is exempted from tax but your annuity income is taxable. You can opt for a lump sum withdrawal of the balance which is exempted from tax. You can also postpone withdrawal till the age of 70. If the accumulated balance is less than ₹2 lakh you can withdraw it completely.
• If you are a government employee and have taken voluntary retirement: You need to invest a minimum of 80% of the corpus in an annuity. You can withdraw completely if the balance is less than ₹1 lakh.
• If you are a corporate sector employee who has taken voluntary retirement:
  • You should have maintained the account for at least 10 years.
  • You will need to purchase an annuity with at least 80% of the amount
  • You can opt for complete withdrawal if the balance is less than ₹1 lakh.
    In the event of a subscriber's death, irrespective of whether he/she was a government or private sector employee, the corpus is given to the nominee or legal heir.

You can only opt for partial withdrawal for specific purposes such as children's education and marriage or to build a house or during medical emergencies.

• You are allowed only three withdrawals during the tenure of your subscription. You will need to maintain a gap of at least 5 years between the two withdrawals except during medical emergencies.
• Upto 25% of the Tier I corpus can be withdrawn before the age of 60, and withdrawals are only allowed after three years. The amount withdrawn is exempted from taxes.

If you are keen on making NPS a part of your retirement portfolio, it is time to understand and decode the annuity angle.

Once you reach the age of 60, you can opt for a lump sum withdrawal of your corpus, i.e., 60 per cent of the balance, and you can transfer the balance to your annuity service provider (ASP). You need to utilise at least 40 per cent of the accumulated surplus to your ASP to purchase the annuity. In case you opt for premature withdrawal, 80 per cent needs to be spent on the annuity.

ASPs are life insurance companies appointed by the PFRDA who are responsible for providing pension to NPS subscribers for the rest of their lives. The NPS has no involvement in the transfer of your funds to your ASP, and you will need to choose the ASP to buy your annuity.

Read more about: Everything you should now about Annuity and NPS

For a seamless, hassle-free experience, you can download the ET Money and subscribe to an NPS account. You can get insights on your investments that are easy to understand and updated in real-time. What's more, the security offered by the app is as sophisticated as that of any bank and you have no reason to fret about account details, passwords or the safety of your money.

Steps to open an NPS account through ET Money

Download the ET Money app and click on the NPS tab.

• Click on Invest Now. Enter the details as requested.
• Choose your risk-taking ability.
• Choose a pension fund from the list. Click on invest now.
• Enter the amount that you want to invest.
• Once the payment is done, you will have to enter your mobile number, Aadhar, PAN and other details.

With a variety of investment options promising to ease your retirement life, choosing the right scheme can get a tad confusing.

Many investors find themselves in this dilemma when faced with having to choose between PPF and NPS. Although PPF isn't a particularly retirement-specific investment scheme, it is a long-term investment backed by the government. Hence, it is quite popular among investors looking for risk-free retirement investments.

If you happen to be trapped in the NPS vs PPF debate, the following table can help you gain clarity.