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Big Story | A beginner’s guide to investing in NPS

Satya Sontanam | Updated on September 20, 2020 Published on September 19, 2020

Under the National Pension System, you can either actively choose the equity-debt allocation of your portfolio or opt for it to be automatically adjusted based on your age

The Employees’ Provident Fund (EPF), which offers fixed returns with low risk, has been the default retirement savings option for the salaried class for long. But investors who depend heavily on the EPF for their retirement plans are waking up to a new reality now — with the EPF Organisation (EPFO) struggling to meet its declared interest rate for 2019-20. Sharp fall in market interest rates on debt instruments and a 15 per cent exposure to the stock markets have hit it hard.

This could be a sign of times to come for retirement products offering fixed returns. Market-linked returns may be the only sustainable way forward. In this context, investing in NPS can help diversify your retirement savings.

A citizen of India, whether resident or non-resident, aged 18-65 years as on the date of submission of their application can open an NPS account (All Citizen Model).

 

Under NPS, there are two main account types — Tier I and Tier II. Tier I is the primary retirement account in which withdrawals are restricted until the age of 60 or retirement.

Tier II is not a retirement account but a savings facility that can be opened once you have a Tier I account; there are no withdrawal restrictions in the Tier II account. The minimum investment to keep your Tier I account active is ₹1,000 per annum (₹500 being the minimum amount per contribution). For Tier II, there is no such minimum investment requirement.

Also, there is no limitation on the maximum amount you can invest in both the accounts.

Here, we focus on the Tier I option.

Investment options

Four fund options —Scheme E (primarily equities), Scheme G (government securities), Scheme C (corporate debentures) and Scheme A (alternative investment securities) are available to subscribers under the All Citizen Model.

Scheme E funds can invest in listed shares with a market capitalisation of above ₹5,000 crore. They are also allowed to take derivative positions in F&O (futures and options) stocks up to 5 per cent of the portfolio.

Scheme G invests predominantly in Central government securities and State development loans across maturities.

The default risk in such G-Sec funds is almost nil, but they are exposed to risk from the rise and fall in interest rates.

Scheme C carries a higher risk than Scheme G and invests mainly in the listed securities issued by corporates with a minimum residual maturity period of three years from the date of investment, and also infrastructure-related debt instruments.

The last fund option, Scheme A — introduced in October 2016 — invests mainly in Alternative Investment Funds (AIF Category I and II), Real Estate Investment Trusts (REITs), Infrastructure Investment Trusts (InvITs), Basel III Tier 1 bonds and securitised papers.

You can allocate up to 75 per cent of your investment amount in Scheme E (up to 50 years, and up to 100 per cent of the contribution in Schemes C and G; only 5 per cent allocation can be made in Scheme A. This option given to a subscriber is under ‘active choice’.

In case you don’t want to exercise a choice, you can opt for auto choice. In this option, the investments will be made in a lifecycle fund.

Here, the proportion of funds invested across asset classes will be pre-determined by the age of the subscriber. As age increases, the individual’s exposure to equity and corporate debt tends to decrease. (see table)

 

Our take: The average returns from the different schemes over short and long time-frames are given in the accompanying table.

If you are young and have just started your career, relatively lower returns from Scheme E should not deter you from parking money in it. Over the long term, equity investments have the potential to fetch inflation-beating returns.

Scheme A investments generally carry high risk and have a limited track record. You can avoid this segment for the time being.

You are allowed to change your NPS investment option from auto to active or vice-versa twice a year. You can also change the asset allocation among Schemes E, C, G and A, twice a year. Under active choice, you can assess your risk ability periodically and make changes to your NPS asset allocations accordingly.

If you want to automatically reduce risk as you get older, the auto choice is advisable.

Currently, there are seven pension funds (HDFC, ICICI, Kotak, LIC, SBI, UTI and Aditya Birla Sun Life) for the All Citizens Model.

Their performance across various schemes and tenures can also be seen in the accompanying table.

You can asssess the performance of your fund manager periodically, taking into account the long-term track record and consistency of returns delivered. If you are not satisfied, you have an option to switch from one fund manager to another, once a year.

 

Withdrawal/exit

Unlike EPF, you will not receive the entire pension proceeds from NPS in hand at the time of retirement. Upon attaining the age of 60, at least 40 per cent needs to be utilised for the purchase of an annuity product and the balance is paid as lump sum to the subscriber.

The mandatory requirement to purchase annuity is with a view to provide for monthly pension after retirement.

You can defer the lump-sum withdrawal and the annuity purchase till the age of 70. You can also continue contributing up to the age of 70 years (with no change in tax treatment on contributions, returns and withdrawal). Note that this option to continue has to be exercised at least 15 days prior to completion of 60 years.

If you want to exit from NPS before attaining the age of 60 years, you can do so only if you have completed 10 years in NPS.

In this case, at least 80 per cent of the accumulated pension wealth needs to be utilised for purchase of annuity and only the balance 20 per cent is paid out as lump sum.

Subscribers are also allowed to partially withdraw from the NPS account after three years from the date of joining the NPS. But this option is available only for specified reasons such as children’s higher education or wedding, purchase/construction of a residential house and treatment of critical illnesses (including Covid-19). That’s not all. The withdrawal amount cannot exceed 25 per cent of the contributions (without accrued income earned thereon) made by the subscriber.

In case of the unfortunate event of death of a subscriber, the nominee can opt to receive 100 per cent of the NPS pension wealth in lump sum. Else, they can also opt to continue with the NPS.

Our take: Locking your pension funds until 60 years of age is a good thing as it helps build a nest egg for your silver years. But if you want to retire early or need money to meet certain expenses during the course of your working life, your hands will be tied, as options for partial withdrawals or early exit from NPS come with conditions..

Thus, the key is to make sure you have other investments as well, from which you can exit with fewer hassles.

Tax implications

If you stick to the old tax regime, contributions to the NPS account are eligible for tax deduction up to 10 per cent of gross income under Section 80 CCD (1) of the Income Tax Act, subject to an overall ceiling of ₹1.5 lakh under Section 80 CCE. In addition to this, a subscriber is also allowed an additional deduction of up to ₹50,000 of NPS investment under Section 80CCD 1(B).

Further, returns earned on the NPS contributions are also tax-exempt.

The 60 per cent of the lump sum paid to the subscriber on attaining 60 years of age is fully exempt from tax.

The balance 40 per cent, which is to be compulsorily invested in annuity, is also exempt. But the annuity income, which you will receive periodically, is taxable at your slab rate.

Thus, like the EPF, NPS also enjoys the EEE (Exempt- Exempt-Exempt) status.

Note that while partial withdrawal is totally tax-exempt, pre-mature exit by the subscriber from the NPS attracts tax. In the latter case, the lump-sum withdrawal (20 per cent) is taxable as per the applicable slab rate in the year of withdrawal. And the income on the annuity bought with the balance 80 per cent of the corpus will be taxable at the slab rate.

How to open an NPS account online

An NPS account can be opened by visiting any of the nearest empanelled bank branches and submitting the filled-in registration form along with supporting KYC (Know Your Customer) documents.

However, if you don’ t wish to step out, let not the pandemic stop you from opening an NPS account. Here’s how you can do so online.

Using Aadhaar or PAN

You can open the account online by registering on the eNPS website (enps.nsdl.com or nps.kfintech.com).

The registration can be done either using Aadhaar or PAN.

When Aadhaar is used, the subscriber should upload the Aadhaar paperless offline e-KYC Zip file on the eNPS platform. Aadhaar paperless offline e-KYC is a secure and shareable document that can be used by any Aadhaar holder for offline verification of identification.

This can be downloaded from the UIDAI website (resident.uidai.gov.in/offline-kyc).

You can download the Zip file by giving the Aadhaar number and creating a password (share code).

After uploading the Zip file on the eNPS website, the subscriber will be prompted to enter the password (share code) created while downloading the Zip file on the UIDAI website. Using this, all your personal details will be fetched from the Aadhaar database.

After that, you need to upload the scanned copies of your PAN (Permanent Account Number) card, a cancelled cheque and signature.

Then, you will be routed to a payment gateway for making the payment towards your NPS account using internet banking.

The minimum contribution at the time of account-opening is ₹500 for a Tier I account. On making the payment, you will be allotted a Permanent Retirement Account Number (PRAN).

Subsequently, the registration form has to be eSigned, after which your NPS account will be created.

The eSign mechanism of Aadhaar shall be accepted in lieu of a wet signature on the documents provided.

eSign is an online electronic signature service in India to facilitate an Aadhaar holder to digitally sign a document using an OTP (one-time password).

If you cannot eSign, you need to take a printout of the application form, sign your name, paste your photo and post it to the Central Record-keeping Agency in Mumbai.

Similarly, using PAN, you can open an account online by going through the entire process online (except the Zip file part) if you have an account with any of the empanelled banks for KYC verification.

The list of empanelled banks is available on the eNPS website.

If you are a non-resident, in addition to the above process, you need to provide the NRE/NRO bank account details, upload a scanned copy of passport and opt for preferred address for communication — overseas address or permanent address. All future NPS contributions can also be done online through your debit/credit card or internet banking.

The minimum amount that you should contribute per transaction is ₹500 for a Tier I account.

You can make contributions through UPI (Unified Payments Interface) as well. Using UPI, you can instantly transfer the money from your bank account. However, payment though UPI is only for contributions of up to ₹2,000 (including charges).

 

Additional services

Once you create an NPS account, using PRAN, you can obtain additional services online on the eNPS website. You can view your NPS account details/transaction statement, change scheme preferences, update email id or mobile number, etc.

You can also provide nomination by selecting ‘update personal details’ after accessing your account on the eNPS portal. The subscriber is required to e-sign to authenticate the changes. If the e-sign fails, the changes will not be updated and the subscriber has to update using the physical form.

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Published on September 19, 2020
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