For every salaried person, the word retirement brings a sigh of relief. While some think they can enjoy the mornings taking care of the garden, some plans to enjoy the afternoon nap. However, although retirement would signify an end to the daily hardships of working 8-9 hours a day, not having a fixed payment every month can be a significant hindrance to a happy retired life. Therefore, investing in a suitable pension scheme is essential.
National Pension Scheme (NPS) is one such retirement plan that has been introduced by the government to address the hassles faced by people post-retirement. In this scheme, people can save funds during their working years to have a financially independent retirement life. So, keep reading to know all the essential details associated with the National Pension Scheme and make an informed decision accordingly.
Understanding the National Pension Scheme (NPS)
The National Pension Scheme (NPS) is a government-sponsored scheme introduced to help the employees save funds for future use. This pension scheme is open for all, including private and public sector employees and people working in unorganized sectors. However, the armed forces will not be eligible to access NPS.
With this scheme, the employees need to invest a certain amount at given intervals while employed. After retirement, the account holders will be free to withdraw a specific portion of the savings. The remaining amount can be drawn as a monthly pension after you retire.
Previously, the NPS scheme was only accessible to the employees of the Central Government. Now, the Pension Fund Regulatory and Development Authority of India (PFRDA) has made it accessible to all Indian citizens, provided they want to invest. Other than helping the employers post-retirement, the NPS also offers tax benefits under Sections 80CCD and 80C.
Any Indian citizen falling in the age group of 18 to 60 years can open an NPS account. In a year, the account holders can pay a minimum of Rs. 6,000, which can either be invested as monthly payments or as a lump sum. The contributions made by the people are later on invested in various market-linked investments such as equity and debt, and the returns gained depend on the ups and downs of these markets. For now, the interest earned is about 8-10% on the savings done.
Who Should Consider Investing in NPS?
People who want to save for their retirement life and exhibit a low-risk appetite can consider investing in the National Pension Scheme. Having a monthly income post-retirement will help the people live a stress-free life, especially for those working in the private sector. Moreover, the NPS can be an excellent instrument for those looking forward to getting the most out of the deductions available under Section 80C.
Essential Features of NPS
Now that we are well aware of the basics of NPS let’s delve into the features of the same to understand how it functions.
There are two types of accounts under the NPS scheme. They are:
Tier I Account
This account is a pension account and comes with certain restrictions on withdrawal. A person before reaching 60years of age can only withdraw 25% of the contributions made. The rest, 75%, needs to be spent on buying an annuity from the life insurer. On the other hand, after a person turns 60 (or is 60 years), nearly 60% of the saved funds can be withdrawn. Again, the rest, 40%, has to be used for buying an annuity from life insurers.
Tier II Account
This is a voluntary account that can be used by the person to withdraw funds at any time. However, one cannot avail of this benefit unless he has an active Tier I account in his name.
Returns/ Interest Options Under NPS
A part of the NPS contributions is invested in markets such as equities, which provides the account holders with higher returns than any other popular tax-saving instruments like PPF. Providing about 8-10% annualized returns, this can be a generous pension scheme for those who want to opt for long-term savings and gain financial security post-retirement. Moreover, with the NPS, people can also opt for a different fund manager if they are not satisfied with the working of the fund.
The Risk Associated with the Scheme
For now, a cap exists in the range of 75% to 50% on equity exposures of the NPS. In the case of government employees, this cap can reach 50%. In this given range, the equity portion will begin to get reduced by 2.5% yearly, starting from the time the person turns 50 years old. Moreover, the NPS account holders who are 60 years or above this age, the cap set is 50%.
This helps to balance the risk-return equation and ensure that the contributions made are not affected by the market’s volatility. This also makes NPS a better option than other fixed-income schemes prevalent in the market.
Early Withdrawal and Exit Regulations
As NPS is a pension scheme, it is important that the account keeps investing till he turns 60 years of age. However, one can be allowed partial withdrawals of up to 25% after he has invested for three years. This early withdrawal can only be available in some special instances such as children’s higher studies or marriage, medical treatment of the person or family members, buying or building a house. In the entire tenure, withdrawals can be made only three times, with a gap of 5 years in between.
Note: These rules are applicable only for the Tier I account and will not apply to the Tier II account.
Withdrawal Regulations After a Person Turns 60
With the NPS retirement plan, a person after attaining 60 years of age will not be allowed to withdraw the entire accumulated amount. As per the rules, the account holders must keep aside 40% of the money so that they can receive a monthly or annual income from the PFRDA insurance company. The remaining portion of the fund is tax-free and can be withdrawn by a person after retirement.
Equity Allotment Rules
According to the Equity allocation rules, the investors can not allot more than 50% of the equity market investment. The subscribes are choose from two investment options, that is, the auto choice and the active choice. In auto choice, the investments are made keeping in mind the risk profile as well as the age of the account holder. On the other hand, the active choice lets the subscriber decide the fund they want to invest in and split the funds according to their risk appetite.
Tax Saving Benefits under NPS
The National Pension Scheme allows the account holders to enjoy tax-exemption of up to Rs. 1.5 lakh in accordance with Section 80C of the Income Tax laws. Moreover, also note that the contributions made by the employer and the employee towards NPS will also be exempt from taxes.
A part of section 80C, this concerns the self-contributions. The maximum deduction an account holder can claim under this subsection is 10% of his salary. The self-employed subscribers can claim up to 20% of their gross income.
This section concerns the contributions made by the employers in the NPS scheme. The maximum tax benefit that can be claimed through this section is the lowest amount that can be calculated from:
- The contribution made towards NPS by the employer
- Dearness Allowance plus 10% of Basic c. Gross total earnings.
Note: This benefit will not be applicable to self-employed taxpayers.
Any additional self-contribution can be claimed (up to Rs. 50,000) as per Section 80CCD(1B) under the tag NPS tax benefit.
Process one needs to follow to create an NPS account
The PFRDA allows the subscribers to either opt for an online or offline means to set up an NPS account.
To open an NPS account, the person needs to find the nearest PoP (Point of Presence) and collect a subscriber form. The form needs to be submitted along with the KYC documents. Once the initial investment has been made (not less than Rs. 1000 annually or Rs. 250 or Rs. 500 monthly), the PoP (can be a bank, too) will send the account holder a PRAN, which stands for Permanent Retirement Account Number. The password and the number provided will help you to run your account.
The online process of NPS account setup can be done in a few minutes. Open an account by visiting the official website and ensuring KYC-compliance. Once done, the registration can be validated with the OTP sent in the person’s mobile number. This will help the account holder generate a PRAN that can be used to function the account later.
The National Pension Scheme (NPS) can be associated with several advantages, from ensuring a financially independent retirement life to helping subscribers with tax savings. Therefore, wait no more and plan your post-retirement with NPS right away.
To understand the tax implications of NPS in a better way, contact FinGurus today!