All you need to know about investing in National Pension Scheme
National Pension System (NPS) is a voluntary, defined contribution retirement savings scheme designed to instil the habit of saving for retirement. Under the NPS, your savings will be invested in a pension fund by Pension Funds Regulatory and Development Authority (PFRDA) regulated professional fund managers with the approved investment guidelines. The portfolio will be diversified, comprising of government bonds, bills, corporate debentures and shares.
What are the advantages?
Flexible: The NPS offers a range of investment options and choice of Pension Fund Managers (PFMs) for planning the growth of your investments. Individuals have the choice to switch over from one investment option to another.
Portable: The NPS provides seamless portability across jobs and locations, unlike all current pension plans, including that of the Employees’ Provident Fund Organisation (EPFO).
Regulated: The NPS is regulated by the Pension Fund Regulatory & Development Authority (PFRDA), with transparent investment norms, regular monitoring and performance review of fund managers by the NPS Trust.
Dual benefit of low-cost and power of compounding: Account maintenance costs under the NPS are the lowest, compared to similar pension products available in India.
A safe retirement fund: Introduced by the Government of India and regulated by the PFRDA makes the NPS a safe investment option for your sunset years.
Tax benefits: Individual/ Employee contribution
There are three main advantages of investing in NPS:
Section 80C Deduction: Your contribution is eligible for a deduction under section 80C up to a maximum limit of Rs 1.5 lakh. 80C includes tax benefits for investments made in Provident Fund (PF), Public Provident Fund (PPF), life insurance, National Savings Certificates (NSC), etc, and tuition fees and home loan principal; NPS also falls under the said options.
Take, for example, if you have invested Rs 50,000 in PPF, Rs 25,000 in life insurance, Rs 25,000 for home loan principal, then you can invest Rs 50,000 in NPS and avail the benefit under Section 80C for up to Rs 1.5 lakh.
Note: There is a maximum limit for investments in NPS, which is fixed at 10% of your basic salary, including dearness allowance or 10% of your total gross income if you are a non-salaried individual.
For example, if your basic salary and dearness allowance is, say, Rs 10 lakh, then the maximum amount you can invest in NPS cannot exceed Rs 1 lakh.
Additional Rs 50,000 benefit under Section 80CCD (1B): There is an additional deduction of Rs 50,000 available for financial year 2015-16 under Section 80CCD (1B). This is over and above the section 80C limit, which means you can claim up to Rs 1.5 lakh for your Section 80C investments (including NPS), and an additional up to Rs 50,000 for NPS contributions made in the Financial year 2015-16.
Employer contribution under Section 80CCD(2): If you are a salaried individual and your employer also contributes to the NPS on your behalf, then the amount is eligible for deduction under Section 80CCD (2). This deduction is over and above the two aforementioned deductions under Section 80C and 80CCD (1B). Here too, there is a maximum limit to the employer’s contribution eligible for a deduction, which is fixed at 10% of your basic salary (including DA).
Withdrawal or Exit from NPS:
At any time before 60 years of age: You need to invest at least 80% of the pension money to buy a life annuity from any Insurance Regulatory and Development Authority (IRDA) regulated life insurance companies and the rest 20% can be withdrawn as a lump sum.
At 60 years of age: At maturity, you need to invest minimum 40% of your savings (pension wealth) to purchase a life annuity and the remaining amount can be withdrawn.
Death due to any cause: In the face of an unfortunate event, your nominee will have the option to receive 100% of the NPS money in lump sum or, if the nominee wishes to continue with the NPS, he/she can subscribe to it individually after following the due Know Your Customer (KYC) procedure.
Taxation on withdrawal and recent changes announced in Budget 2016
As mentioned above, you can only withdraw up to 60% of your total pension corpus when you turn 60, which was completely taxable earlier.
In the union budget this year, Finance Minister Arun Jaitley announced that withdrawals up to 40% of the total NPS corpus will be tax-free. Which means, you can withdraw 60% of your accumulated money and you need to pay tax only on 20%, and remaining 40% will go tax-free.
For example, you have Rs 10 lakh lying in your NPS account at the time of maturity. You can withdraw only 60% of the corpus, i.e. Rs 6 lakh. With the remaining Rs 4 lakh, you are required to buy an annuity and get a pension every month.
Now, for the Rs 6 lakh withdrawn, 40% of the total (NPS) corpus is tax-free, which means Rs 4 lakh is tax-free. For the balance Rs 2 lakh of the amount withdrawn, you will need to pay taxes based on your tax slab at the time.
This has brought NPS close to other competing products like PPF and EPF, where the total withdrawal is completely tax-free.
Note: Some of the standard information has been sourced from the official website of pension fund regulatory and development authoritywww.pfrda.org.in.
Rishabh Parakh is a Chartered Accountant and the Chief Gardener & Founder Director of Money Plant Consulting, a leading Tax & Investment Planning Advisory Service Provider. He also runs a personal finance blog called “Mango Investor” aka AAM Niveshak at www.mangoinvestor.com. Readers are invited to send their feedback to email@example.com.