NPS for tax savings & good retirement planning


The national pension scheme is a great way to plan retirement as tough partial withdrawal norms help save the final corpus

The national pension scheme (NPS), as it is popularly referred to, is a government-backed retirement scheme, which is available to all Indians, aged 18 to 60. NPS has two separate schemes under its general plan, which is open to the general public across the country. The two schemes are named tier I and tier II schemes. While the tier I scheme is a mandatory plan. Only on possession of an account under tier I, can one open an account under the tier II scheme, which is optional.

Tier I scheme is compulsory for government employees and for employers working in a company, which offers NPS for employees. The minimum annual contribution is Rs 6,000 and the government or employer can also contribute to the NPS account.

Tier II scheme is open to everyone who already has a tier I scheme account and who wants to have an additional NPS account. The minimum annual contribution is Rs 2,000 and neither the government nor the employer can make additional contributions to the account.

For the tier I account, a user can get an additional tax exemption of Rs 50,000 under the section 80CCD. The contributions made by the employer and accountholder will anyway be eligible for income-tax exemptions under the section 80C up to the eligible limits.

How does NPS work?

The contributions under NPS come under the purview of the pension fund regulatory and

development authority (PFRDA). The NPS retirement fund can be invested in three asset classes namely, equity (E), government gilts and bonds (G), and fixed-income securities (non-government) and risk-bearing instruments with fixed income like fixed deposit, corporate bonds and liquid funds (C).

While E is risky, it can provide high returns, G is low risk and provides low returns, and C is medium in both risk and return.

The accountholder can choose to operate the account in the active mode where they can decide on the allocation of funds in the three classes E, G and C in an active fashion.

Another operation facility available is auto, where the accountholder can allow the fund manager to choose the mode of allocation depending on various factors such as market conditions and the NPS accountholder’s age.

To protect the investor’s interest the maximum 50 per cent equity exposure is allowed and a minimum exposure of 50 per cent of fund value in the government gilt and securities is mandated.

NPS for tax saving

As mentioned earlier, contributions to NPS are exempt from income tax under the section 80C for the limit of Rs 150,000 and an additional exemption of Rs 50,000 under the section 80CCD is also permitted. It means an individual can invest and get exemptions for Rs 200,000. Also, the companies, which contribute to the employee’s account can avail tax exemptions for themselves as well.

Retirem­ent plan & NPS

The one unique feature of NPS is that the entire money stays locked in till retirement. Partial withdrawals are allowed only after 10 years of regular account operations.

This limit is sealed at 25 per cent of the corpus value at the time of withdrawal. Withdrawal is allowed only three times during the entire period of investment and there should be a minimum gap of five years between subsequent withdrawals.

When an investor completes a minimum period of 10 years or turns

60, he/she can exit the fund. If an investor exits NPS before the age of 60, they are allowed to withdraw only 20 per cent of the fund value as a lump sum and must buy an annuity with the rest of the amount.

If the investor exits at the age of 60, they can withdraw up to 60 per cent but should invest 40 per cent in annuities. The annuity has to be bought from one of six approved annuity providers who have to provide the investor with a monthly income.

NPS mandates the buying of annuity and tries to ensure that the fund corpus is as large as possible by the time the investor turns 60. These inherent rules make it an ideal retirement planning option as it facilitates both a monthly income as well as a lump sum amount on exit. Though the retirement corpus is taxable, the laws may change to make it tax-free at the time of exit.

NPS is a great way to plan for retirement, as one cannot easily make partial withdrawals, which will eat into the final retirement corpus. Every Indian individual must consider NPS as a retirement investment option and reap the rewards!

(The author is chief executive officer and founder of Right Horizons)

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