Has the National Pension System come of age?

To make the National Pension System (NPS) attractive and bring it on par with similar savings products, the government announced a slew of changes and amendments in the Union Budget of 2019. One of the changes was in respect of taxation of the corpus on maturity. The existing provision was that a subscriber on the maturity of the scheme could withdraw 60% of the accumulated corpus and buy an annuity plan with the remaining 40%. Again, of the 60% withdrawn by the NPS subscriber at the time of retirement, only 40% was tax-exempt and balance 20% was taxable. Union Budget 2019 has increased the tax exemption to 60% and thereby making NPS come under Exempt, Exempt and Exempt (Triple E) category on contribution, accumulation and maturity. These changes now place NPS on par with other products like Public Provident Fund and Sukanya Samriddhi Yojana and EPF. Against this backdrop, here is a lowdown on NPS, which is still evolving and is a work in progress like the IBC.

NPS was initially launched in 2004 to provide government employees with retirement income during their old age. After many amendments, it is now open to all citizens of India including NRIs and OCI. NPS is an important milestone in the development of a sustainable and efficient voluntary defined contribution pension system in India and has the following broad objectives:

Provide old age income

Reasonable market-based returns over the long term

Extending old age security coverage to all citizens

Who is Eligible?

All citizens between the ages of 18 and 65 years are eligible to open the account. A Nonresident Indian (NRI) can also open an NPS account. Contributions made by an NRI though are subject to regulatory requirements as prescribed by RBI and FEMA from time to time. Recently the government has permitted an OCI (Overseas Citizens of India) also to open NPS. However, PIO (Person of Indian Origin) and HUFs are not eligible to open NPS account. In addition, NPS account can be opened only in an individual capacity and cannot be opened or operated jointly with a spouse, child or a relative.

The government of India has also established Pension Fund Regulatory and Development Authority (PFRDA) to regulate the pension sector reflecting the government’s concerns on providing social security to people during their old age.

What are the types of accounts?

A subscriber can open two types of accounts. The first one is the Tier I Account, which is a non-withdrawable account; Contributions to tier-I qualify for tax benefits. The second one is the tier-II Account which is a voluntary savings account. The subscriber is free to withdraw from this account. Further, central government employees would now be able to claim deduction under Section 80C with respect to the contribution made to Tier-II NPS account. Earlier, no deduction was available in respect of contribution made to the tier-II account.

Union Budget 2019 has also increased the limit of deduction under section 80CCD with respect to the contribution made by the Central Government to the NPS account of its employees. Thus, Central Government employees would now be entitled to claim a deduction of 14% of their salary contributed by their employer in their NPS account.

How much can a subscriber contribute in a financial year?

A subscriber can contribute a minimum amount of Rs 500 per contribution or Rs 6,000 per year and a maximum of Rs 1,50,000 per financial year. A subscriber can decide on the number of frequency of contributions in a year.

Does a subscriber have the choice over his contribution?

Yes, a subscriber can choose between an active choice and an auto choice. In the active choice, he has the choice of following funds.

Asset Class E: Investment in predominantly equity market instruments

Asset Class C: Investment in Corporate Debt

Asset Class G: Investments in Government Securities.

Asset Class A: Investments in Alternate investments like real estate investment trusts, infrastructure investment trusts or alternative investment funds.

Under the auto choice, the investments will be made in a life-cycle fund. Here, the proportion of amount allocated across three asset classes will be determined by a pre-defined portfolio. At the entry age, more amount will go into equity and will decrease annually and switched into G class towards maturity.

What are the Tax Benefits?

A subscriber can claim a maximum benefit of Rs 1,50,000 per year under Sec80C of the IT Act. He can also claim an additional amount of Rs 50,000 under Sec80CCD (1B). In all, a subscriber can claim a maximum deduction of Rs 2,00,000 under NPS.

The Union budget has increased the charges for NPS marginally to 0.005% towards the recovery of charges and expenses per annum. This is insignificant as on an AUM of Rs one lakh, the charges will be a negligible Rs 5 per year. So go ahead and invest in NPS in its new avatar.

(The writer is a CFA and a former banker and currently teaches at Manipal Academy of Banking, Bengaluru)