THE CONUNDRUM OF THE NPS !!!

Financial planning is the most neglected thing in the Indian society. Even after rapid increase in per capita income of the country, there is a lot of ignorance towards financial planning and most of which can be attributed to the lack of basic finance knowledge. Hence I am staunch supporter of the people advocating finance should be mandatorily taught in the schools. Let's discuss one of the financial tools that's being in the news in recent times i.e. NPS!!!

NPS is a market-linked voluntary contribution scheme that helps you save for your retirement. The scheme is simple, systematic, portable and flexible and is one of the most efficient ways of boosting your retirement income.

NPS was introduced by the Central Government to help the individuals have income in the form of pension to take care of their retirement needs. The Pension Fund Regulatory and Development Authority (PFRDA) regulates and administers NPS under the PFRDA Act, 2013.

NPS is a market-linked defined contribution scheme that helps you save for your retirement. The scheme is simple, voluntary, portable and flexible. It is one of the most efficient ways of boosting your retirement income and saving tax. It allows you to plan for a financially secure retirement with systematic savings in a planned way.

The National Pension System (NPS) provides a pension based on the returns from contributions invested in debt and equity instruments. There is no guaranteed fixed pension amount, as it depends on market performance.

Let's dig deep into the NPS

GOOD:

1) Diversification

Investing in NPS allows you to access four different asset classes viz. equities, corporate bonds, government securities, and alternate assets, potentially yielding good returns. Managed by professional fund managers registered with the PFRDA, the fund eliminates the need for your active involvement in day-to-day investment decisions.

2) Investment options

investment options as per risk appetite of the person i.e. aggressive, moderate, and conservative. 

3) Flexibility

The greatest advantage of the NPS is its flexibility. You can switch between investment options (auto and active) up to four times a year without incurring any charges or capital gains tax. Additionally, you have the option to choose from 10 fund managers and can change your fund manager once a year.

4) Tax advantage

In addition to the ₹1.5 lakh deduction available under Section 80C of the Income Tax Act, you also receive an additional deduction of up to ₹50,000 on investments under Section 80CCD(1B) by investing in NPS Tier 1 scheme.

5)  Convenience

You can seamlessly apply for NPS online by filling in the application form, uploading all your documents and making investments from the comfort of your home. You can contribute to NPS scheme at a frequency that suits you best, whether it’s monthly, quarterly, or annually.

 BAD:

1) Partial tax exemption

At maturity, you can withdraw 60% of the accumulated corpus tax-free. However, the remaining 40%, which you will receive as an annuity, is taxable. Thus, it's important to note that NPS only offer partial tax exemption.  

2) Liquidity

The NPS scheme has a lock-in period but allows limited premature withdrawals. You can exit after five years, withdrawing up to 20% of the corpus, with the remaining 80% used for annuities. Partial withdrawals (up to 25% of your contribution) are allowed three times for specific reasons like higher education, marriage, home purchase/reconstruction, or medical emergencies, but only after three years in the scheme.

3) Limit on equity investments

After the age of 50 years, the percentage of equity exposure reduces by 2.5% every year. When you reach 60 years, the equity exposure is reduced to 50%. This can be unwelcome for investors looking for high returns.

VIEWS/ANALYSIS:

NPS investments offers tax relief for annual payment of Rs 50000/-. Hence the returns whatever generated are above your tax rate. Hence annually 50000 Rs should be invested to save the tax as your tax bracket. For risk averse person NPS might be the perfect solution for investment in the equities and for the people with greater risk appetite, minimum investment of 50000 Rs is not a bad idea and building huge corpus for SWP(find details about SWP in separate post) mutual funds which definitely give better returns.  

So, it's a must have product in portfolio for everybody but the amount varies as per risk perceptions. As usual, Please contact your financial advisor before investing decisions.

- SACHIN GOSWAMI