Over the year and a half, NPS has attracted many new investors to its fold because of exclusive tax benefit of Rs 50,000 under Section 80CCD(1). Union Budget 2016 made the withdrawal at the time of retirement more tax friendly.
Do you know these tax benefits are only limited to NPS Tier I account? What about investment in Tier II NPS account? Well, not many bother.
Though NPS Tier II does not get much attention because there is no tax benefit on investment, it presents an investment alternative nonetheless.
In this post, let’s discuss the tax treatment of NPS Tier II investments and if you must consider NPS Tier II for your investments.
Can I open a Tier II NPS account without opening Tier I account?
You cannot open a standalone Tier-II NPS account. You need to open a Tier I NPS account before you operate Tier II NPS account.
Liquidity in NPS Tier II Account
There is no restriction on withdrawals from NPS Tier-II account. You can withdraw the amount whenever you want.
Must Read: Revised Exit and Withdrawals rules for NPS
Tax Benefit on Investment in NPS Tier II Account
There is no tax benefit on investment in Tier-II Account of NPS.
All the tax benefits on investment under Section 80CCD are limited to Tier I account of NPS.
Must Read: Tax Benefits and Tax Treatment of Tier I NPS Account
Tax Treatment of withdrawal from NPS Tier II account
Better clarity is awaited on this matter. There can be 3 potential treatments.
1. Should be given the same treatment as Tier-I NPS
Under Tier I NPS, up to 40% of accumulated corpus is exempt from income, if the amount is withdrawn as lump sum. This was announced in Union Budget 2016.
Do note you can withdraw up to 60% of the accumulated corpus as lump sum at the time of retirement. However, only 40% is exempt from tax.
You may argue that NPS Tier II should be extended the same treatment.
Let’s look at Section 10 Act mentions post the passage of Income Tax Act.
(12A) any payment from the National Pension System Trust to an employee on closure of his account or on his opting out of the pension scheme referred to in section 80CCD, to the extent it does not exceed forty per cent of the total amount payable to him at the time of such closure or his opting out of the scheme;
Quite clear. The announced relaxation is only for Tier-I NPS account because contribution to only Tier-I NPS enjoys tax benefit under Section 80CCD.
2. Should get capital gains treatment
NPS Tier-II is like an open ended mutual fund. Hence, it should get a similar tax treatment. Redemption from Equity scheme (E) of NPS Tier II shall get tax treatment of an equity fund.
Redemption from Government Bond (G) or Corporate Bond scheme (C) shall be taxed like redemption from debt mutual fund.
However, for that to happen, NPS Tier-II must qualify as Capital Asset under Section 2. I am not sure if it does.
3. Withdrawals to be taxed at marginal income tax rate
The entire withdrawal/redemption amount shall be taxed at your marginal income tax rate. To be honest, this looks onerous. This may amount to double taxation. You invest in Tier-II NPS from your post tax income (since there is no tax benefit on investment).
At the time of withdrawal, the entire withdrawal amount gets added to your income and gets taxed at your marginal income tax rate.
Which taxation option will apply?
I don’t know. Option 1 is certainly out of picture.
The choice must be between Option 2 and 3.
You can expect better clarity to emerge over the next few years.
You incur cost to invest in NPS Tier II
You need to pay 0.25% of the contribution amount every time you invest in NPS Tier I or Tier II account. Service tax shall be extra. This charge is NOT applicable if you make contribution through eNPS portal.
However, there can be payment gateway charges if you are investing through eNPS. Payment through credit card or debit card can result in charges up to 0.9% of the contribution amount. If you pay through net banking, it is quite cheap at 60 paise per contribution.
If you plan to invest through NPS, contribute through eNPS and use Net Banking to save cost.
Must Read: How to open NPS account online using Aadhaar Card?
Should you invest in Tier-II NPS?
My answer is No for the following reasons.
There is not much clarity on how the withdrawals from NPS Tier-II will be taxed. Perhaps, better clarity will emerge over the next few years. You can see Option (3) spells big trouble.
Even with lower expense ratio, you must consider the all-in cost of investing in NPS Tier-II. There are multiple ancillary charges that may take the overall cost of investment higher.
Stay away from Tier-II NPS for the time being. You are better off investing in mutual funds on your own.
Additional Links
64 thoughts on “Should you invest in NPS Tier II Account?”
Considering the entry/exit load of mutual funds and the low interest rates in bank FDs I feel NPS tier II offers a decent returns. I hope you can provide a deeper insight into the costs associated with NPS account rather than just telling that there could be multiple ancillary charges. Thanks for your efforts.
Hi Chetan,
The details of major charges are already there in the post. In any case, you can get an almost complete list of charges here.
https://npscra.nsdl.co.in/all-faq-charges.php
I say almost because PFRDA keeps adding charges. Recently, they added a service charge of 0.05% of contribution amount for contributions through eNPS (not applicable if you opened your account using Aadhaar).
Once you have all the charges, it is a fairly simple spreadsheet analysis. Let me know if you need any assistance.
Do note some of these Tier-II funds invest in actively managed fund schemes. So, even though themselves charge less, the actively managed fund scheme will have its own charges. So, don’t just focus on expense ratio of Tier-II funds.
Btw, at the moment, the much bigger confusion is taxation. Taxation at marginal income tax rate (if that’s the case) will simply ruin your returns.
Entry load is no longer around in mutual funds. No distributor involvement in direct plans. Exit load is generally not applicable after 1 year. Hence, entry and exit loads of MF schemes are not any bit a concern.
However, if you use equity MF investments for short term, then you have a case. I advise readers against that.
Comparing FDs and NPS Tier II is like comparing apples and oranges (unless of course you are talking about debt scheme in Tier II). Unless Tier-II C and G schemes are betting on interest rate movements, low interest rates in economy will affect their performance too.
Please clarify whether this NPS scheme is beneficiary for govt. employees as compared to old Pension Scheme of Govt. Insert a suitable example to clarify the query please.
Dear Seema,
Depends on what you are comfortable with. There is no fixed answer.
In any case, it is not an option anymore. All new joinees have to pick NPS only.
I know Deepash ji that every new employee is bound to accept the new scheme of NPS. But still I want to know the farther consequences of this scheme and want to compare this with old pension scheme benefits which are being provided by the govt. to its employees appointed before the start of NPS scheme and who are covered under GPF/old pension scheme.
For example if a class IV employee of old pension scheme gets retired on superannuation on today then he will get benefits of monthly pension, DGRG, Commutation, GPF savings and above all, the medical reimbursement also. But employees covered under new pension scheme are not getting these benefits except that of DCRG, which has recently been notified by the govt. for NPS employees also.
Dear Seema,
To be honest, my knowledge of the older pension system is fairly limited.
NPS per se won’t cover medical expenses after retirement.
However, medical expenses post retirement can be covered under some other arrangement.
Under NPS, your pension is not fixed. Depends on the performance of your investments and the prevailing annuity rate.
Under old pension scheme, you will get fixed benefits. As I understand, pension gets indexed every few years.
OK. Thanks for the discussion
Hi,
How to transfer money from Tier-II to Tier-I account.
how to cancel Tier-II account.
How to put money directly from our bank account to Tier-I account.
I dont know how NSDL side allow me to open Tier-I and Tier-II account parallely.
Now when I am trying to enroll my NPS account number or PRAM number in my bank account and pay to it, it showing the money will move to Tier-II account.
Please help me here.
A person is having an NPS tier I and tier II account in his name. He is appointed as clerk in a govt. department. Can his NPS Account be accepted by govt. for employer’s contribution? If yes, then what is the process for it?
Dear Seema,
I assume the NPS account has been under All Citizens model.
If he wants to shift to Government Sector NPS, he will have to shift/transfer his NPS account from All Citizens Model to Government Sector NPS.
Suggest you go through the following post.
http://www.personalfinanceplan.in/opinion/how-to-shift-nps-account/
The post lists out the detailed process for shifting NPS account.
Thanks sir
I would like to say that below recommendation is not true and NPS tier II is one of the cheapest investment option that I would advise people to take as it one of the safest option and the fund charges are exceptionally low in comparison of mutual fund. Now regarding you point on the taxation for tie II investment you money doesnt get taxed based on the marginal income tax rate instead its taxed based on short term and long term investment criteria. I would advice people to invest before making any conclusion.
Sir, # Taxation of NPS Tier 2-
is there any circulars either from PFRDA or CBDT for the Taxation of NPS Tier 2- debt funds (G or C)? can u attach or inform where is it which says it is Belgium on long term tax with indexation benefit & 20% tax or 10% tax on pre-indexation.
Taxation of NPS does not come under purview of PFRDA. You need to rely on income tax act.
In my opinion, there is lack of clarity of taxation of Tier 2 NPS.
I would like to say that above recommendation is not true and NPS tier II is one of the cheapest investment option that I would advise people to take as it one of the safest option and the fund charges are exceptionally low in comparison of mutual fund. Now regarding your point on the taxation for tie II investment your money doesnt get taxed based on the marginal income tax rate instead its taxed based on short term and long term investment criteria. I would advice people to invest before making any conclusion.
Hi Arun,
About your first objection, I wouldn’t argue much. It is a matter of preference.
About taxation, I don’t agree. There is no clarity yet in the Income Tax Act.
NPS is not a capital asset. Hence, short term or long term capital gains taxation does not apply.
Can you please point to the relevant clauses in the Income Tax Act, which makes you think so?
I shall be happy to update my opinion.
And the advice should always be “To reach a conclusion before making any investment”. Not the other way round.
I have invested money in nps tier 2 Frankly speaking I don’t need to read income tax act to know whether it’s really taxed at what rate. Based on the investment and withdrawal that I have made so far the nps tier 2 has same taxation just like any other mutual fund it depend on the withdrawal by the user whether the money is withdrawn within short period or long term basis. If anyone is giving an opinion to an investor it should purely based on investing not on the observation or assumption to help other investor investment decisions. I would prefer that people invest in small number and learn from the experience than to just believe in someone opinion who has not investment.
Dear Arun,
Don’t think I can argue with “Frankly speaking I don’t need to read income tax act to know whether it’s really taxed at what rate.”
I can reason with only those who are willing to reason.
Income Tax Act is what is written and not anyone’s personal opinion.
Arguments must be supported by facts (and relevant clauses).
By the way, NPS Tier-II is not any out of this world investment. The only way it scores over others is probably the cost. Even that can be nullified if the NPS funds itself is investing in equity funds. Simply no other benefit.
You could have invested in Tier II NPS and redeemed units. NPS does not deduct TDS. If you declare it as capital gains, that’s how the taxation will be (or calculators work like). Does not mean you are right.
All I am asking is to wait and let clarity emerge about taxation.
I think and then act. Not the other way round.
Btw, I opened an NPS account recently. Does not mean I know everything about NPS.
Not everyone who invests in equity markets in is an expert in equity market. Same applies to NPS too.
Taxation being so complicated why is PFRDA not clarifying? especially whether entire withdrawal will be added to income since it is not capital asset? If one continues to contribute till 70 since annuity will have to commence after 63 40% of which amount is tax free? etc etc
Taxation is not in the hands of PFRDA. It is in the hands of CBDT or the Finance Ministry. PFRDA can only lobby.
I hope clarity will emerge in the coming years.
You cannot contribute and draw annuity at the same time. Suggest you go through the following post.
http://www.personalfinanceplan.in/opinion/you-can-contribute-to-your-nps-account-even-after-you-turn-60/
This is what Section 10 of the Income Tax Act says.
any payment from the National Pension System Trust to an employee on closure of his account or on his opting out of the pension scheme referred to in section 80CCD, to the extent it does not exceed forty per cent of the total amount payable to him at the time of such closure or his opting out of the scheme;
So, it is better to withdraw 40% at the time of exit from NPS. Remaining, you can withdraw till the age of 70.
I started investing in both nps tier i & ii. In the month of april if i want to switch my funds from tier ii to tier i, will it be taxed?? What would be the implication?? My nps investment tier i & ii is purely into g type.
Do not have much clarity about taxation of NPS Tier II account. Grey area for me.
In my opinion, switch is a redemption in Tier II NPS followed by purchase in Tier I NPS.
Hence, it should be taxed.
As per Section 10 of the Income Tax Act
any payment from the National Pension System Trust to an employee on closure of his account or on his opting out of the pension scheme referred to in section 80CCD, to the extent it does not exceed forty per cent of the total amount payable to him at the time of such closure or his opting out of the scheme;
The meaning of this is very simple : On closure or opting out the person has to purchase annuity from a third party by paying 40 % of the wealth and this portion is exempted from income tax. So what ever a person going to get from NPS tier I is taxable
Tier II NPS is not covered under Section 80CCD(2). Only Tier I NPS is.
Hi Deepesh,
Nice details and discussion shared about nps.
I have opened nps tier1 and tier2 via nps portal using aadhar. But after reading your post it seems i should stay away from tier2.
Now is there a way to opt out of tier 2.
Also there is a minimum contribution of 6000/yr on tier1. Does it applies to tier2.
I must say things in nps are really dark
How can i withdraw amount from tier 2 account.
You can do it online.
Can I withdraw online from NPS tier 2 account.
Dear Deepak, NPS booklet says tierII account savings can be withdrawn whenever we wish without any “exit load”. so does this mean that it will not be taxed?
This means NPS will not charge any penalty. Income tax implications won’t go away.
Thank’s Deepesh for all the insight. Thanks for all the effort and sincere suggestion. Pls update if you kind any more clarity on NPS TierII taxation. Thanks
Sure…will do.
1. what is interest rate on tier II contribution?
2. if employee expired during on service, his nominee will get 40% contribution or not?
3. as per old pension scheme, is there any commutation option at the time of superannuation?
4. NPS stands new pension scheme or national pension system??
5. can any employee extra contribution in tier I, because under GPF scheme has an option upto 1.5 lacs saving according his choice?
Dear Surinder,
NPS provides market linked returns. There is no fixed interest rate.
There is no tax benefit on investment in Tier II either.
1. Market linked
2. Nominee will get the entire amount.
3. That is for Tier I,
4. Both
5. Yes
WHAT IS THE WITHDRAW PROCESS IN TIRE II
There is no restriction on withdrawals from Tier II account.
Contact PoP (Place where you opened the account). Or you can do it on eNPS portal.
My query is about Swavalamban Scheme
I have read somewhere that contribution has no upper limit
Secondly i am depositing money 12000/- per year from last 3 years, but till date i do not know about the status of my contribution.
I am having PRAN No.
Where do i check the status.
Kindly help me.
I am not very sure.
You can go the bank where you opened the account.
Try online. I am not sure if it will work.
https://cra-nsdl.com/CRA/
sir i am bank employee since 1999 having pension option.now my query is that can i open NPS for which i can get income tax deduction under 80 cc(d). please clarify
Hi Prakash,
If you are not already a subscriber in NPS, you can open NPS account and get tax benefit.
Hello sir,
Myself Abish I have opened tier-2 account now I have to contribute in ony tier -2 acount or I have to contribute in both tier-1 and tier-2 account. Kindly suggest me sir.
Hello sir,
Myself Abish I have opened tier-2 account now I have to contribute in only tier -2 account or I have to contribute in both tier-1 and tier-2 account. Kindly suggest me sir.I m confuessed
Reply
Tax benefit is only for Tier-I account.
Sir I am govt. employee. I have opened tier 2 account and I contributed in tier 2, also I got message that I have to send form tier 2 within 90 days but now I don’t want to send tier 2 form to mumbai can I withdrawn my money without sending fill form of tier2
You can withdraw but I think you need to send the completed form first.
Excellent replies from you.
Please help to clarify the following:-
1) Switch in schemes in Tier 1 from one fund manager to the other is actually a switch out from one fund and switch in to the other, I hope this does not comes under capital gains taxation. One switch in a year is permitted.
2) Can you please give the latest information on NPS tier 2 withdrawals tax implications
Many thanks
1. No capital gains on switches from one manager to another.
2. Still not clear. Most likely, you can subtract your investment value from the withdrawal value and pay tax at the marginal rate on the remaining amount.
dear sir
I have a tier 2 NPS account .I submitted 2000/month in tier 2 .I want to know that Is any difference between SIP in NPS tier 2 VS SIP in mutual fund .My goal is for long-term 15 yrs . Which is best for me?
1- SIP in mutual fund (ex – SBI blue chip fund )
2- NPS tier 2
i have nps tier 2 (sbi pf)
I prefer mutual funds over NPS Tier-II.
ok..thanks .So it means mutual fund gives more return value over NPS tier 2 .
Hi Amit,
Didn’t say that. Merely said mutual funds are better in my opinion.
एक राज्य कर्मचारी होने के नाते क्या मैं tier1 से tier2 में जा सकता हूं ? यदि हां तो कौन सी tier बेहतर है ?
नहीं आप टियर १ से टियर २ में नहीं जा सकते|
टियर 2 अकाउंट बिना Tier 1 अकाउंट खोले नहीं खुल सकता|
टैक्स बेनिफिट केवल टियर 1 अकाउंट में निवेश करने के ही लिए है|
टियर 2 अकाउंट में निवेश करने पर कोई टैक्स बेनिफिट नहीं है|
आप यह पोस्ट भी पढ़ सकते हैं|
https://www.hindifinance.com/nps-tier-2-tax-benefit/
Sir,
Regarding tier-2 taxation: If I withdraw partial amount, will they deduct TDS or it is up to me to calculate my total taxable income and file the returns? In case of FDs, bank will deduct TDS if interest exceeds more than Rs. 10000 in a financial year. Is there any similar mechanism in Tier-2 also?
Thanks and Regards,
-prasad.
No concept of TDS in NPS.
IF I INVEST 300000 AND I WITHDRAWAL 350000 AFTER 4 MONTH from TIER II ACCOUNT OF NPS and my income from salary 800000, So, i have to paid incometax of gross AMOUNT =800000+ 350000=1150000 or 800000+ 50000=850000
only on the gain. 3.5 lacs – 3 lacs = Rs 50,000.
You will have to pay tax on Rs 50,000 only.
Sir,
i want to know that the FD and NPS TIER 2 both are same scheme with respect to taxation?
only interest gain on capital is Taxable?
which is batter FD or NPS TIER 2?
is there any clarity on tax with regards withdrawal?if i transfer tier 2 to tier 1, what about tax on transfer of money from tier 2 to tier 1?
You have to decide between FD and NPS Tier 2?
Not considering other options.
Sir,
i want to know that the FD and NPS TIER 2 both are same scheme with respect to taxation?
only interest gain on capital is Taxable?
which is batter FD or NPS TIER 2?
is there any clarity on tax with regards withdrawal?if i transfer tier 2 to tier 1, what about tax on transfer of money from tier 2 to tier 1?
Hello Deepesh Sir,
It has been few years, is there clarity on taxation on Tier II now?