Retirement is an uphill battle for most people. Even government jobs no longer offer a pension and almost no private jobs offer retirement solutions for working professionals.
This means you alone have to plan your finances for retirement. In fact, nearly 50% of urban Indians don’t have a plan for retirement. However, when you think of retirement, the National Pension Scheme comes to mind.
This story will help you understand what NPS is, how it works and delve into the benefits that it offers. We will also compare NPS to other popular investments that can be alternatives to an NPS investment.
What Is The National Pension Scheme (NPS)?
The National Pension Scheme (NPS) is a government-backed investment option. Saving for retirement in India is difficult and that’s the problem the NPS aims to solve
NPS allows subscribers to voluntarily invest money in the scheme using an NPS account. This contribution can accumulate and earn interest over the course of time.
NPS contributions follow a two-tier system:
A Tier-I NPS account will be opened by default whenever you invest in the NPS. The money you’ll invest will be locked in till you turn 60 but there are exceptions to this rule.
For example, you can withdraw half the NPS investment in case you complete 25 years of service. The mandatory lock-in in NPS is enforced to ensure that you have money when you retire.
Furthermore, you can claim a tax deduction on the contributions you make to your NPS account under Sections like 80C and 80CCD. You can read more about this in our blog: All You Need To Know To Save Tax In 2021
The Minimum Contribution To NPS Tier-I Account
₹500 when you open the NPS account
₹1000 per year (excludes tax and fees)
At least 1 contribution per year
There are penalties in case the minimum contributions mentioned above are not met. Your NPS account may be frozen with restricted access to facilities in case you contribute less than ₹1000 a year.
The contribution boils down to a regular Systematic Investment Plan (SIP) that’s at the least yearly in the case of NPS. The inflexible nature of NPS may be a turn off for modern investors.
You can voluntarily open a Tier-II NPS account if you have a Tier-I account. It doesn’t have a lock-in period and you’ll be free to withdraw your investment at any time.
Furthermore, you can’t claim any tax deduction for the contributions made to a Tier-II NPS account. However, these flexible caveats don’t apply to government employees who want to claim tax benefits.
Government employees will have to endure a 3-year lock-in period in case they want to claim tax deductions for the contributions they make to their Tier-II NPS account.
The Minimum Contribution To NPS Tier-II Account
₹1000 when you open the NPS Tier-II account
₹250 per year (excludes tax and fees)
No mandatory minimum transactions necessary
Account Opening Contribution
Minimum Yearly Contribution
Minimum Yearly Transactions
How To Open An NPS Account?
You can open an NPS account online or offline. Here's how:
A. Offline NPS Account Opening
Visit a registered Point of Presence (POP)
Get the registration form
Fill the form
Attach KYC documents (photo ID, PAN, address proof, and others)
Submit the form
B. Online NPS Account Opening
Go to the NSDL website
Select "New Registration"
Choose desired options
Register with Aadhar (or Virtual ID)
Add relevant information (personal, bank a/c, etc)
Who Can Open An NPS Account?
The NPS investment option is open to Indian citizens with valid KYC documents between the age of 18 to 65. NRIs can invest in the NPS as well. You must visit a Point of Presence - Service Providers to open the NPS account.
Benefits Of NPS Investment
1. Reasonable Returns
An NPS investment will give you exposure to pension funds, fixed income instruments, government securities, and others, that have generated reasonable historical returns between 8 to 10%.
This may be better than other traditional assets like Fixed Deposits, Recurring Deposits, and PPF but it isn’t as lucrative as equity funds, international funds, and alternative investments.
Average Long Term Returns
8 to 10%
9 to 12%
12 to 15%
8.5 to 12%
2. Relatively Low Risk
The NPS investment is structured in a way that reduces your exposure to risk. Your NPS portfolio cannot have more than 75% exposure to equity. Equity exposure is capped at 50% for government employees.
This percentage reduces by 2.5% every year starting from when you turn 50. Furthermore, investors above the age of 60 can’t have more than 50% exposure to equity instruments.
Overall, the NPS is known to carry relatively lower risk compared to stock and international investments but is comparatively riskier than traditional investment options.
Either way, the trade-off reveals itself in the returns which are reasonably higher than traditional investment options but lower than equity and stock investment options.
3. Tax Benefit
The NPS was introduced to help investors save for a life post-retirement. But there are other benefits to an NPS investment like tax exemptions.
You can claim a tax deduction of up to ₹1,50,000 under Section 80C for your contributions towards your NPS account per financial year. Thus, NPS is a viable tax-saving option, but it is not particularly efficient.
However, the devil lies in the details. The tax saving incentive is a by-product of the primary benefit of an NPS investment which is to help you save for retirement.
The two can often be conflated and may lead to bad investment decisions.
4. You’re (Partially) In Control
You have the option to change your fund manager in case you’re unhappy with your NPS investment’s performance. This option is available for Tier-I and Tier-II accounts.
Essentially you can plan for your retirement without investing in the NPS as well. A combination of the assets mentioned above (excluding NPS) can allow you to create a diverse portfolio of investments with better returns than an NPS investment.
The NPS offers reasonable returns and tax benefits. However, you must narrow down your reasons for making an NPS investment. Conflating tax saving and retirement planning can be detrimental to your financial goals and the potential of your investments.
Investors are known to explore alternatives to NPS like building the perfect portfolio. Either way, it would help to consult a trained financial professional so that you can understand what would help you save for retirement.
Frequently Asked Questions Around National Pension Scheme (NPS)
Q. What is the NPS scheme and benefits?
Ans. The National Pension Scheme (NPS) is an investment option that is designed to help you build wealth for life after retirement. NPS is backed by the government.
NPS has been known to offer benefits like reasonable returns (8-10%) and tax deductions of up to ₹1,50,000 at relatively low-risk compared to other traditional investments like FDs.
Q. Is NPS better than PPF?
Ans. NPS has been known to generate better returns on average than PPF. Furthermore, it may give investors tax benefits across two categories, Section 80C and Section 80CCD.
Q. Can I invest more than ₹50,000 in NPS?
Ans. Yes, you can invest more than ₹50,000 in NPS. There’s no upper limit or maximum investment ceiling on an NPS investment for salaried employees.
However, self-employed individuals can only invest up to 20% of their gross income. Overall, you can claim a deduction of up to ₹1,50,000 for contributions made to NPS under Section 80C.
Furthermore, you can claim a maximum deduction of ₹50,000 for contributions made to NPS under Section 80CCD.
Watch this video to find out more about building the perfect portfolio
Shriram is a Content Marketer at Cube Wealth, the Financial Freedom App with a smart Perfect Portfolio Planner. He has developed cutting edge IT products for over 2 years before turning to his passion for the written word. Shriram’s love for philosophy, product development, and empowering people through quality content is what got him to Cube Wealth.
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