NPS has attracted a lot of interest from investors due to favorable taxation announcements in the past few years. However, a number of investors have a few misconceptions about NPS structure.
Many investors think the NPS provides annuity. But that’s not completely true. You invest in NPS to accumulate corpus. You use the corpus (at least 40%) to purchase annuity at the time of retirement. However, these annuity plans are not sold by NPS Trust. The annuity plans are sold insurance companies empanelled with NPS. The annuity rates are not guaranteed. You get the rate prevailing at the time of your annuity purchase. If you exit NPS before retirement, you will have to purchase annuity for 80% of the accumulated corpus.
Hence, when you purchase annuity from an insurance company (annuity service provider) at the time of retirement, you enter into a contract with the insurance company. NPS has no role to play apart from transferring a part (or entire) of your accumulated corpus to the Annuity service provider (ASP).
Are you aware of the annuity options available to NPS subscribers? What are the annuity rates currently? Does mandatory purchase of annuity work in your favor? In this post, I will try to answer such questions. I will use keywords Annuity and Pension interchangeably in this post.
Read: FAQs about annuity withdrawal and lumpsum purchase at the time of exit from NPS
Read: Common Doubts about NPS
Read: NPS Tax Benefits and Tax Treatment on Maturity (Updated)
How do Annuity plans work?
When you purchase an annuity plan, you enter into a contract with an insurance company. In return for the purchase price, the insurance company makes you periodic payments (monthly, quarterly, semi-annual or annual) for life (or fixed period). The pension that the insurance company pays depends on your age and the type of annuity plan chosen.
Empanelled Insurance Companies for Providing Annuity under NPS
Currently, there are seven empanelled annuity service providers:
- Life Insurance Corporation of India
- SBI Life Insurance Co. Ltd.
- ICICI Prudential Life Insurance Co. Ltd.
- HDFC Standard Life Insurance Co Ltd
- Bajaj Allianz Life Insurance Co. Ltd.
- Reliance Life Insurance Co. Ltd.
- Star Union Dai-Ichi Life Insurance Co. Ltd.
You can see the updated list here.
Annuity Options available under NPS
- Annuity/ pension payable for life at a uniform rate.
- Annuity payable for 5, 10, 15 or 20 years certain and thereafter as long as the annuitant is alive. (I do not understand how this works)
- Annuity for life with return of purchase price on death of the annuitant.
- Annuity payable for life increasing at a simple rate of 3% p.a.
- Annuity for life with a provision of 50% of the annuity payable to spouse during his/her lifetime on death of the annuitant.
- Annuity for life with a provision of 100% of the annuity payable to spouse during his/her lifetime on death of the annuitant.
- Annuity for life with a provision of 100% of the annuity payable to spouse during his/ her life time on death of annuitant. The purchase price will be returned on the death of last survivor.
Option 6 is the default annuity option. Only monthly annuity is allowed under NPS.
For detailed information about these aforementioned annuity options, go through this post on LIC Jeevan Akshay.
You can also go through FAQs on CRA website for better clarity.
These plans differ on a few parameters namely
- Whether the annuity income stops or goes to your spouse after your demise
- Whether the purchase price is returned after the demise
- Whether annuity is increasing or constant
Expectedly, the return of purchase price will reduce annuity income (pension per month). If the annuity has to be paid to spouse too, the annuity income will be lower.
LIC Annuity Rates
I am copying NPS annuity rates from LIC website. You can check these rates here.
Please not there are annuity rates as on date. By the time you retire, these rates might be very different. Moreover, these are annuity rates from LIC. Other empanelled companies may have different annuity rates.
Points to Note
- The earlier you purchase annuity, the lesser pension you will get.
- The pension income is lower if the pension is to be paid to your spouse too (after your demise). Do note if the spouse dies earlier than you do, this option will go in vain. (Options 5, 6 and 7)
- The pension income is lower if you opt for return of purchase price (Options 3 and 7).
- If you opt for increasing pension (Option 4), the pension will be lower initially and increase over the years.
You can see pension income is lowest in Option 7 where annuity needs to be paid to the spouse along with the return of purchase price to your nominee (when both you and your wife have passed away)
Taxation of Annuity Income
This annuity income will be taxed in the year of receipt at your marginal income tax rate.
What is the problem with mandatory purchase of annuity in NPS?
This is best explained with the help of an example. Let’s consider Option (1) where annuity is paid as long as the annuitant is alive. There is no pension paid to spouse and there is no return of purchase price either.
If you purchased Option (1) for Rs 10lakhs at the age of 60, you will get Rs 7,450 per month for life. That is Rs 89,400 per annum. There will be return of purchase price (Rs 10 lacs) at the time of your demise. Hence, your spouse or any dependent do not get anything back.
So, if you die at the age of 65, you would have got only Rs 4.47 lacs from the insurance company in 5 years. The insurance company pays no further. You family does not get anything. You had paid Rs 10 lacs to purchase the plan and got only Rs 4.47 lacs back.
The IRR (internal rate of return) will depend on how long you survive. If you survive till the age of 75, IRR will 4.18% p.a. The IRR will be 6.69% (if you survive till 80), 7.86% (if you survive till 85) and 8.47% (if you survive till 90). So, you need to live longer to extract the most out of the insurance company.
Do note I have calculated these numbers with pre-tax numbers. If you have to pay tax on pension income, the return will go down further.
Now, let’s consider Option 3 where you get the annuity income as long as you are alive and your nominee gets the purchase price back after your demise.
If you purchase Option 3 for Rs 10 lacs (at the age of 60), you will get Rs 5,660 per month for life. After your demise, your nominee gets Rs 10 lacs. So, you get Rs 67,900 per year for life.
You could have got better returns on a fixed deposit. You can easily find FD with interest rate ranging from 7.5%-8% i.e. 75,000-80,000 per year. At maturity, you get the principal back too. With Senior Citizen Savings Scheme (SCSS), the interest rate is even higher at 9.3% p.a. at present. There is a cap of Rs 15 lacs on investment in SCSS though.
Interest on fixed deposit and SCSS is taxable. Pension income is also taxable. So, there is no difference on the taxation front either.
The only issue is that you won’t find fixed deposits for 20 or 30 years. SCSS maturity is 5 years with option to extend by further 8 years. So, you can’t lock in the interest rate for your life, which you can do with annuity product. However, you can invest in long term government securities or tax free bonds to lock in interest rates for long term.
You can see annuity is much ado about nothing. If you have discipline, you can easily replicate this performance yourself. You don’t need an insurance company to do this for you. The question is how many of us can exercise such discipline.
PersonalFinancePlan Take
I am not strictly against the mandatory purchase of an annuity plan. Not many of us can invest with the discipline to generate regular income. Retirements can be long. If you indulge initially (initial years of retirement), you can face serious financial problems in the later years of your life. Annuity plans can enforce discipline. With annuity plans, you know how far you can stretch your expenses. You will get monthly income and you have to manage with it.
Moreover, managing an investment corpus may not be easy at an advanced age. So, essentially, you are paying an insurance company so that you can maintain financial discipline.
However, annuity rates need to be a bit more competitive.
A lot of people argue that it is your money and you should have the freedom to use it the way you want to. And they are right. Disciplined investors can always do better without annuities (at least with age on their side). No question about that. But what about the others? I think the Government is more concerned about the others.
61 thoughts on “Annuity options under NPS”
Excellent article Dipesh, Thanks!
-Sumer
Thanks Sumer. Am glad you liked the post.
Please do share with friends and family.
Sir, Excellent article.
I personally think post retirement its always better to invest in FD eventually rate may be less but at any give point of time in case of medical emergency it can be liquefied. Kindly guide?
Thanks Vishal.
I do not completely agree. Yes, FD sounds like a better deal (than annuity). You can liquidate FD in case of emergency.
However, you can’t limit yourself to FDs during retirement.
You may have to explore other investment options too unless you have lots of money.
Even between FD and annuity, an 80-year old may not have requisite physical and mental health to manage corpus. Say, visit bank branches regularly to renew FDs. Such a person may be better off with annuity. Moreover, annuity rates improve as you grow older.
This is one aspect I didn’t cover well in this post.
So, not so simple. Depends on many factors.
Sir,
Very nicely explained. The concept and calculations are pretty rocket science for a layman when it comes to choosing a annuuty plan monthly.
And can you suggest which ASP and scheme/annuity plan which one could choose currently if one has to. This is for one of my friend.
He was working with a PSU bank for last 5 years and now he has resigned to pursue some abroad assignments. He wishes to withdraw the 20% of accumulated fund in NPS and choose for an annuity plan which could give him maximum returns in shortest span of time. As he is planning to settle in abroad, he is not looking for a life-long pension.
Does he plan to exit NPS?
In that case, he will have to convert atleast 80% into annuity (and not just 20%).
Unless ofcourse if the amount is less than Rs 1 lacs, he can withdraw the entire amount.
Yes sir, he has to choose a plan for investing the 80% of NPS proceeds. And that amount is nearly Rs. 5 lakhs
I don’t know the current rates on offer.
However, there is no difference. You can choose any company.
Seek quotes and go with the one that offers the highest rate.
Do he need to have completed 10 years in NPS for exercising the early exit option?
This restriction of 10 years for premature exit under NPS does not apply to Government Subscribers. Applies to all other subscribers.
I am not sure if PSU bank employees come under Government Sector NPS.
Excellent write up, simple and very clear for a layman. Please continue such work, very helpful to us lay folk that almost always got conned by the marketing blitz put out by the likes of ICICI etc etc..
Thanks!!!
Appreciate your kind words.
Yes, financial advice at banks is mostly driven by commissions.
Investor interest is never at the forefront.
Sir…if one opts annuity at the age of 40 with 80% corpus and if the same person attains 50 will he be offered higher annuity in the same policy…?
Annuity rates can change in 10 years.
However, if two persons aged 40 and 50 respectively go and purchase same annuity plan on the same day, the monthly income will be higher for a 50 year old.
Hi Deepesh, Can someone buy an annuity plan without going for NPS ? For example , if I have saved say 10 lakhs in PPF , can I buy annuity plan with that money ?
Hi Anirban,
Yes, you can purchase annuity plan without going for NPS.
You can purchase immediate annuity plan whenever you want. Suggest you go through following post for better clarity.
http://www.personalfinanceplan.in/insurance/pfp-primer-pension-plans-from-insurance-companies/
If you have money saved in PPF, you can use PPF itself to generate annual income. Suggest you go through the following post.
http://www.personalfinanceplan.in/opinion/how-to-use-ppf-account-as-a-pension-tool/
Hello sir….need ur suggestions…
In 2013 I joined Maharashtra police as a sub inspector..and after 15 months I quit my job due to personal reasons..my nps cutter was about 2500 per months…so if I close my dcps that is nps account. Can I withdraw my saving in nps….
If the accumulated amount is less than Rs 1 lac, you can withdraw the entire amount lump sum.
Hello sir , even all which salary I received in 15 months was online ..so I am even not having salary slip..so how could I get nps account number..
I am not sure, Rohan.
Please contact accounts office in your department.
I opend NPS 2014 , i am padi by monthley 6000 /- , Annuity Service Providers (ASPs) under National Pension System, this complesery purchase the plan, please tell me sir
I opened NPS 2014, i am paid by monthly 6000 /- , Annuity Service Providers (ASPs) under National Pension System, this compulsory purchase the plan, please tell me sir , what are the benefits, please tell me sir
Yes, barring a few exceptions, you need to purchase annuity for atleast 40% of accumulated corpus at the time of exit.
In case of premature exit, the number goes up to 80%.
Very well explained. Till what we understand that purchase value not returned back and only monthly income received till self or spouse is live. However now it is understand that there are different options available under annuity and in some option 100% purchase value comes back at the time of death or spouse death. Is my understanding is correct?
Thanks Jitendra!!!
You are right. There are many annuity options.
There is one with return of purchase price too (as you mentioned)
Very well explained Deepesh.
Can you clarify the below scenario’s?
1) I take an Annuity at 60 for Rs 1 Lakh for life pension (option vii) , I die with in a year. As per option vii , will my spouse get the Annuity purchase amount fully , which is 1 Lakh.
2) If the nominee dies first , can we renominate a nominee.
Thanks for your time.
Thanks Suresh!!!
1. Your wife will get pension income after you.
2. As I understand, you can change nominee but annuity recipient can’t be changed.
Hi Deepesh,
Thanks a lot for such an Excellent article. Continue writing such useful articles for lay man like us.
After going through this article, I now understand different types of annuities provided for monthly pension under NPS.
I think the best option, as far as ROI is concerned, is VII. I understand that I get less monthly pension income in this case (VII) but I get pension till my survival and wife gets it after my death and then return of purchase price to the nominee after my wife death.
I hope my understanding is correct, please confirm.
Best Regards,
Rajashekar
Thanks Rajshekar!!!
Please share with your friends. They may like the post too.
There is no crisp answer. For someone with no dependents, he/she may choose an option which gives the highest income.
Personally, I prefer option where the nominee gets some money back.
Otherwise, in case of early death, the entire amount goes waste.
Got it, thanks Deepesh.
I will definitely share the link with my friends.
One of the options in Annuity payment Plan is “Annuity payment guaranteed for 5 years and for life there after”. Does it mean that Annuity payment guaranteed for 5 years irrespective of Annuitant dies within 5 years? Or it is something otherwise?
Though I am not sure, I believe that’s what it means.
Nominee gets for guaranteed number of years despite death of the annuitant. After that, annuity payments stop with the death of the annuitant.
I am a PSU employee with 14 years of service. I am having NPS account for the last 11 years. If a resign from the job then how much do I need to invest in annuity and how much can I withdraw ? I am having nearly 15 lacs in NPS account. At what time annuity payment will start ? What is the minimum period of annuity plan that I have to compulsorily buy ? My age is 34 years
80% of the corpus will have to be used to purchase annuity plan.
Btw, you can continue your account in your new job or you can transfer to all citizen mode.
Annuity plan for life.
At your age,annuity rate will be quite low.
The pension amount will be less for sure with less age. So in this case, if I opt to choose a plan with 3% annual increase will that be beneficial?
Hi Amit,
The initial pension amount will be lower and then it will increase by 3%. Hence, decide accordingly.
Excellent article Deepesh!!
Do you expect PFRDA more lenient on buying annuity and annuity rate higher than present in future, may be 20 years down the line? I am looking at brighter side of NPS as retirement product. I don’t invest more than 50K at present but hope for this product to be as popular as PPF in future.
And one more thing, when we say diversify your investment in different assets.. why not diversifying retirement investments in Mutual Funds, FD, NPS etc.?
Hi Sarang,
Annuity is a product by insurance companies. PFRDA can’t do much about it.
It can’t force insurance companies to give NPS customers better rates.
Hopefully, competitive forces will improve annuity rates.
What PFRDA has mulled (not finalized) is to offer a choice.For instance, investors may have an option to purchase 30-year Govt Bond instead of annuity plan.
NPS is a good retirement product (with tax benefits too). There are a few aspects where it could have done better.
But it’s a new product. It will evolve over a period of time.
If you are investing in the same asset through multiple means, it is not diversification. You invest in direct equity, equity MF, NPS equity etc.
When you invest meaningfully in different asset classes (say equity,debt, gold, real estate) that leads to diversification.
Hi Deepesh,
I think you should also touch upon the tax benefits that one gets over the period when the accumulation happens till one purchases the Annuity plan post retirement. This is substantial when it is at the highest tax bracket. One should also understand that you are accumulating the corpus with lesser money due to the cash back provided due to tax benefits. This plus the Annuity benefit definitely makes it interesting to give a second though. Your comments please
Hi Prasenjit,
Agree every bit with you.
The key lies in reducing your tax liability at the time of maturity.
Have discussed some of the aspects (not all) you mentioned in the following post.
https://www.personalfinanceplan.in/opinion/nps-tax-benefits-and-tax-treatment-at-maturity-revised/
Do let me know your inputs.
sir,
please explain all the annuity plan 1 to 7 in details with examples..
Thanks in advance.
Sure Hitesh. Will consider updating the post with examples in the near future.
Hi Deepesh,
I’ve a slightly technical question. Any annuity income depends on 3 factors: The principal amount, duration and rate of interest. In case of NPS what duration and rate of interest is being used to calculate pension income? When you say annuity is payable for life, what duration is being assumed for calculating the annuity amount under Options 1-7.
I was trying to calculate these numbers myself in Excel but wasn’t sure what assumptions were being used by LIC etc.
Regards,
Hi Piyush,
If I may ask, what exactly is that you are trying to calculate?
Hi Deepesh,
Sorry for the late reply. I am trying to calcluate the pension per month that I would receive if I had a given corpus at age 60. Basically trying to reconstruct the table in your article.
Annuity is nothing but EMI so I was trying to use the PMT excel formula but it requires rate of interest and duration.
Regards,
Piyush
There is a little difference. Loan EMI have tenure. Annuity don’t have a fixed tenure. That’s why using PMT is an issue.
Insurance companies provide annuity rates based on their underwriting guidelines and investment opportunities they have.
Thanks Deepesh !
Great article. Thanks
I have one point in this.
The positive point of NPS I found is that I save 20% income tax on 50k. Now if I think I’d better invest this 50k in mutual funds or something, one is that I lose 20% of 50k from tax and second is suppose I get returns of 15% (best case) from mutual fund, I am still loosing 5% every year. Whereas in case of NPS, I save complete 20% every year and then some returns I can expect from NPS also over and above this (let’s say 6%). This way I am gaining 6% and in other case I was loosing 5%.
Although only 40% of the corpus will be tax free at maturity, but still to me, NPS seems better (considering tax implications)
Correct me if I am wrong somewhere
Hi Sumit,
You are right. However, return calculations need a revisit. There is no crisp answer.
NPS does offer exclusive tax benefits.
In fact, I advise my clients to invest up to Rs 50K in NPS provided:
1. The investment does not crowd out their overall investments.
2. The marginal tax rate is 30%.
3. They are sure this money can be put away until the age of 60.
You need to weigh in the tax benefits against lack of liquidity, flexibility, tax treatment at maturity etc.
Btw, the tax treatment may change in the future. A bigger problem can be too much regulator involvement.
Covered all these points in this post.
https://www.personalfinanceplan.in/financial-planning/problems-nps-investors-stay-away/
You need to decide for yourself.
Sure thanks
Hi Sumit,
You are missing the key factor of compounding in your calculation, take an simple e.g 35K invested in mutual funds with CAGR of 15% would easy be 2x of returns you earn by investing 50K per year in NPS for the period of 30 years..
Hi Deepesh,
Can I switch from one annuity plan to another before the age of 60 yrs? Also is Active choice and Auto choice flexible to switch from one another? Kindly suggest and elaborate
Hi Shilu,
Annuity is different from Investment Choice (Active or Auto).
You choose annuity plan at the time of exit from the system.
Yes, you can switch between Auto and Active choice.
Do let me know if you have any further queries.
1.How can i know whether my nps account is all citizen model account or not..
2.what are the tax implications in the hand of my nominee after death..before attaining the age of 60 that is receiving from nps account and 2nd option that is after 60 years on receiving annuities to subscriber and nominee getting full of… it..is no where written in law..everyone has different views on it
please help
1. How did you open your NPS account?
2. It qualifies as capital receipt. Not taxable. Didn’t get the last part of your question. Can you please elaborate?
Dear Sir,
1. Which insurance company and scheme is better with 5 lakh or 6.5 lakh with purchasing price for a central Govt NPS subscriber ?
2. Full details about NPS family income (default scheme) like monthly annuity, will it increase yearly or not ? Will Purchasing price return or not ? Will it continue for spouse or not ?
Dear Narayan,
Please refer to the post on LIC Jeevan shanti.
https://www.personalfinanceplan.in/lic-jeevan-shanti-review/
Dear Sir,
I am 29 year old NRI and planning to invest in NPS for next 10 years. Is it possible to purchase Annuity after 10 years and start getting pension or Should I wait till 60 years of age to purchase Annuity?
What will be the percentage return(around) at the age of 40 if I purchase annuity for myself and my wife?
Thanks
Akshay
Hi Akshay,
Since you are an NRI and may not have much taxable income in India, I think it is not prudent for you to invest in NPS.
You are exit NPS after completing 10 years. You can also purchase annuity plan at the time of the time of exit.
However, annuity rates go up with age (so it is better to wait).
Please understand the decision to purchase annuity depend on multiple factors. Difficult for me to comment.
Moreover, you can purchase annuity even without investing in NPS.
Suggest you can seek professional help from an investment adviser.
Hi. I need to know that what could be the Pension amount for 4 lakh annuity amount if I opt for option-2 ( only 5 yrs Pension with Annuity amount back after 5 Yrs)
Kindly suggest the best annuity option considering 70, 75 years of life. Forget nominèe. In order of merit choice no 1,2,3 and so on pl . Regards