Why NPS scores over traditional retirement plans

Written on Saturday, September 26, 2015
By Mohit Mittal- AVP & Head Fixed Income, Bajaj Capital Ltd.

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National Pension Scheme or New Pension System has gained popularity among masses after the union budget for 2015-16 was presented. The sole reason is the inclusion of additional tax benefit of Rs. 50,000. NPS is open for every Indian citizen. Apart from the tax saving feature, there are other benefits which have made this scheme a preferred choice for salaried class as well as self-employed.

It is available in 3 options:

1. Tier-I: This is a mandatory account for all government employees, where they have to save 10% (minimum) of their salary in NPS. Withdrawal is not allowed till the time you retire.

2. Tier II: One can easily withdraw and invest in this type of account. The account can be opened with minimum Rs. 1000 during registration and Rs. 2000 for the entire year.

3. Swalambhan Account: This account is primarily for poor workers. Under this, government would contribute Rs. 1000 per year for the first 4 years.

Once you get your account opened, you can choose the mode of operation for your account which is- manual or auto. Under manual operation, you can select the investment options as per your risk profile similar to a ULIP scheme. You have 3 investment options to choose from- equity, debt (government securities) and debt (non-government securities).

Under auto mode of operation, the 50% of the funds get invested in equity by default and the rest in debt. But when you move close to maturity, the funds will be gradually transferred to debt option in order to save you from the volatility of equity market. However, the risk quotient with investment in equity is considerably low as investment is done through index mutual funds. You also get an option to choose from a list of seven designated pension fund managers to manage your fund.

How it is better than other traditional schemes

Let's take a case to explain it better. Suppose your age is 30 now and you start with simultaneous saving in NPS, EPF and PPF schemes for next 30 years. The amount invested by you every month is 5,000 with 8% increase in amount every year. At the age of retirement (60 years), your maturity amount would be as follows:

EPF: At 60, your total investment would be Rs. 68 Lakhs. At an interest rate of 8.5% per annum your maturity amount comes to be 2.01 Crores and the amount is completely tax free.

PPF: At retirement your total investment in PPF is 68 Lakhs. Maturity amount come to 2 Crores calculated with interest of 12.5% per annum. Again this yield is tax free.

NPS: In NPS too your amount would be 68 Lakhs but the maturity amount pre-tax would be 4.7 Crores. Based on the indexation, if you have to pay a tax of let's say 10%, still you would get 4.3 Crores (Tax-Free).

40% of investment yield in NPS is used to buy annuity, so now you have 2.6 Crores. Comparing the 3 schemes, NPS clearly has an upper hand and can be considered as one of the best schemes for retirement under the current scenario. 

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