Detailed Guide to Investing in National Pension Scheme
The National Pension Scheme (NPS) is one of the best ways for salaried employees and self-employed professionals to build a retirement corpus. This post talks about the features and benefits of the NPS.
Getting Started With National Pension Scheme (nps)
Retirement planning is one of the most common goals among working professionals. After all, comfortable post-retirement life is only possible if you start planning for it as early as possible. For salaried employees and professionals, the government has introduced the National Pension Scheme (NPS) to help them start saving for and investing towards their retirement. The reasonable annual returns, tax savings, fund manager selection flexibility, and long-term growth features of NPS make it an excellent choice for every person serious about their retirement.
If retirement planning is on your mind, here is a detailed guide to help you understand what NPS is.
What Is Nps?
The NPS scheme was introduced by the government, under PFRDA (Pension Fund Regulatory and Development Authority), in 2004 as a social security initiative for government employees. In 2009, it was made open to all the citizens of the country aged between 18 and 60 years. It is a voluntary pension scheme available for employees from the private, public, and even unorganised sectors. Even employers are eligible to contribute to the NPS account of the employees. Also, while the scheme is targeted towards salaried employees, it is open for self-employed professionals too.
How An Nps Account Works
The basic functioning of NPS is as follows:
Employees or self-employed professionals open an NPS account and then start depositing a fixed sum of money regularly throughout their working years. After retirement, the account holder is allowed to withdraw a certain portion from their NPS account as a lump sum amount. The rest is compulsorily given as a regular annuity (pension).
Types Of Nps Accounts
There are two types of NPS accounts - Tier I (mandatory) and Tier II (voluntary). The most significant difference between the two is the withdrawal restriction. You are allowed to withdraw the entire NPS corpus on retirement from a Tier I account. However, this withdrawal is only possible if you meet certain conditions.
You are free to withdraw the entire NPS corpus if you have a Tier II account. Note that the tax benefit under Section 80CCD (1B) is only available for the Tier I account. INVESTMENT CHOICES AVAILABLE FOR NPS INVESTORS
One can select between Active Choice and Auto Choice. Within the Active Choice, the subscribers can build their portfolio among three asset classes:
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Equity (E)-
The Equity class can deliver the highest returns, but it also comes with the highest level of risk.
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Corporate Bonds (C)-
Investments are made in fixed income corporate bonds. Returns are lower than Equity, but the risk is low.
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Government Securities (G)-
Only invests in government-backed securities. Lower returns but minimum risk.
The Auto Choice includes the Life Cycle Fund. If you don't select any of the asset classes from above, your account will be automatically treated as a Life Cycle Fund. Here, your investment will be divided into pre-fixed proportions based on your age.
For instance, the Equity (E) exposure will be high when you are young. The portfolio will be shifted towards safer Corporate Bonds (C) and Government Securities (G) as you age.
Tax-savings With Nps
The contribution made by the employee, and the employer's contribution (if any) are eligible for a tax deduction up to Rs. 1.5 lakhs in a financial year.
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Employee Contribution
The contribution made by the employee is eligible for tax deduction under Section 80CCD(1). The maximum deduction under this section can be up to 10% of the annual salary of the employee. If you are a self-employed taxpayer, you can claim up to 20% of your gross income as a tax deduction by investing in NPS.
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Employer Contribution
The NPS contribution done by the employer is covered under Section 80CCD (2). Here, the maximum deduction can be the lowest amount of the employer NPS contribution, or the total gross income of the employee, or 10% of the basic salary + DA (Dearness Allowance) of the employee.
Moreover, there is also an additional deduction of up to Rs. 50000 under Section 80CCD (1B) available on self-contribution to Tier I account in a year. So, overall, you can claim a tax deduction of up to Rs. 2 lakhs in a year by investing in NPS.
Withdrawal After 60 Years
There is a widespread belief that subscribers are free to withdraw the entire NPS scheme contribution along with the generated returns, once they retire. This is false- you can only withdraw up to 60% of the corpus. You will not have to pay any taxes on this amount.
The remaining 40% should be compulsorily used for purchasing an annuity (pension) plan from a life insurance company. You will get many different insurance plans to choose from. Also, in case of an emergency like medical treatment, child's education or marriage, house purchase, etc. you can withdraw up to 25% of the corpus after investing in NPS for at least three years.
A subscriber is allowed to make up to 3 withdrawals from the NPS account in 5 years. But note that these limitations are only applicable to the Tier I accounts. The Tier II account is free for withdrawal without any restrictions.
How to open an nps account?
You can open an NPS account, either online or offline. For online investment, visit the official NPS website (enps.nsdl.com) and click on the 'Apply Now' button. You must fill a registration form, which will be followed by e-KYC and provide additional details like PAN, bank account details, etc.
The initial contribution can also be made online. Subscriber will receive PRAN (Permanent Retirement Account Number) on successful online payment. If you want to open the account offline, you will have to visit the nearest NPS POP (Point of Presence). The majority of the banks are now NPS POPs. Visit the POP and ask for a registration form. Fill in the details and complete the KYC process. Make the initial contribution through cheque or demand draft to receive the PRAN.
You will then receive an NPS kit by post. This kit will have the password, which you can use to log in to your NPS account. But, note that there is a one-time fee of Rs. 125 for opening the account offline.
Who Should Open An Nps Account?
Anyone and everyone can invest in the National Pension System. It is a flexible investment option that could help you build a considerable retirement corpus by encouraging you to invest throughout your working years.
It is highly tax-efficient, and you also get to choose and switch between investment funds as per your retirement goals. Also, the equity component of NPS could help you generate better returns than many other investment options in the longer run. Overall, the NPS is an excellent option for planning a comfortable retirement.