Should I invest in NPS? Or Should I invest Rs 50,000 in NPS for exclusive tax benefit under Section 80CCD(1B) and no more? This is a question that worries many of us in the last quarter of financial year. What should you do? Taxation and withdrawal rules have witnessed a massive change in the last few years. How do these changes affect your decision to invest in NPS?
From investors’ perspective, there are a few genuine issues with NPS. On the other hand, there are a few areas which a number of investors think are worrisome but are not in reality.
In this post, I will discuss such aspects of NPS.
What is a problem with NPS?
1. Mandatory purchase of annuity
You must use at least 40% of the accumulated corpus to purchase annuity at the time of retirement. Nothing wrong with the concept per se. Pension plans come with an annuity component attached. Hence, there is nothing special about NPS.
However, annuities are low return products especially if you purchase at a young age. These days, 60 is not too old. Though annuity rates keep on changing, you can get an idea about an annuity rates in this post.
Annuity income is taxed at your marginal income tax rate.
Must Read: Annuity options under NPS
2. Liquidity is a constraint.
You are almost locked in till the age of your retirement. In case of early voluntary retirement, you can either continue with contributions till the age of 60 or you must purchase annuity with 80% of the accumulated corpus (if you want an early exit). If NPS is your major investment, then NPS will govern when you want to retire. Not acceptable.
Partial withdrawal is permitted under NPS for child education/marriage, purchase/construction of house and treatment of critical illnesses. Even this comes with many restrictions on withdrawal amount and timing.
You are almost locked in till your retirement.
Must Read: NPS Withdrawal and Exit Rules
3. Rules are ever changing
NPS is a new product. And rules will keep changing. A few for the better. A few for the worse.
My biggest fear is PFRDA turning out to be something like IRDA. IRDA believes incentivizing the distribution chain to increase penetration. In fact, rewarding will be a better choice of word.
PFRDA recently include a service charge of 0.05% of the contribution amount per annum. I hope PFRDA will not add such charges in the future.
Must Read: You can contribute to NPS even after the age of 60 (All Citizens Model)
What is not a problem with NPS?
1. Taxation of Lump sum Proceeds
Much has been written about taxation of maturity proceeds of NPS.
40% of the accumulated amount is exempt from income and can be withdrawn as lump sum.
At least 40% must be used to purchase annuity. Annuity income is taxed at the marginal income tax rate. Since there is consensus that annuities are bad products, let’s assume you will purchase annuity for no more than 40% of the accumulated corpus.
By the way, annuities can be useful when you are quite old and find it difficult to manage the corpus. You may not have the same physical and mental strength to manage your investments when you are 80. But that’s for later.
Must Read: NPS Tax Benefits and Tax Treatment at Maturity (Post Union Budget 2016)
What about the remaining 20%?
PRFRA permits you to withdraw the remaining 20% in 9 annual installments. The rule is that you can withdraw the amount left after purchase of annuity in 10 annual installments (till the age of 70). Since 1 installment has been utilized to withdraw 40% of the amount, only 9 installments remain. You can refer to concerned PFRDA circular here.
I am sure you can use this provision smartly to reduce your income tax liability.
For instance, you retire at 60. You withdraw 40% as lump sum. You can defer purchase of annuity by up to 3 years. Depending upon the size of corpus, you can withdraw remaining lump sum in 2 installments. Subsequently, you can purchase annuity towards the end of third year.
2. You cannot invest more than 50% into equity.
I don’t think of this as a problem. NPS is not your only investment. You can always compensate by investing more in equity outside of NPS.
In any case, there is a proposal to let investors take greater exposure to equity in NPS.
Should you invest in NPS?
In my opinion, there is no point investing more than Rs 50,000 per financial year. And this Rs 50,000 comes due to the exclusive tax benefit under Section 80CCD (1B).
In fact, there are many experts who argue against even investing this Rs 50,000 in NPS. I do not agree.
It makes sense to invest in NPS for that exclusive income tax benefit under Section 80CCD (1B). More so for people who are in the highest income tax bracket and are sure that they won’t need this money till such time they retire.
Illustration
Let’s say you are 30. You invest Rs 50,000 per annum in NPS for 30 years. Assuming a return of 10% p.a., you will end up with approximately Rs 90 lacs when you turn 60. Now, Rs 90 lacs is so difficult to adjust.
Annuity rate is assumed at 6%.
Let’s see the options at your disposal.
- 40% lump sum withdrawal, 60% annuity purchase
- 60% lump sum withdrawal, 40% annuity purchase
- 40% lump sum withdrawal, 40% annuity purchase, 20% staggered withdrawal
You can withdraw Rs 36 lacs lump sum at the time of retirement. This amount will be exempt from tax.
What is an alternative?
Let’s assume you decided against investing Rs 50,000 per annum in NPS. You have to pay tax on the amount since NPS tax benefit under Section 80CCD(1B) is exclusive. You will have to pay an additional Rs. 15,450 as income tax. You are left with Rs 34,550.
Assuming you invest this amount in equity funds and earn a return of Rs 10% p.a., you will end up with Rs 62.51 lacs at the end of 30 years. I assume long term capital gains from sale of equity funds will still be exempt from income tax after 30 years.
If you compare this amount with second case (60% lump sum and 40% annuity), you end up with Rs 50.64 lacs lump sum (post tax) and annuity incomeRs 2.17 lacs per annum for life. NPS certainly looks like a better option.
You can argue NPS has lower exposure to equity and hence equity funds can earn better returns than NPS. Well, this is a valid point but I will ignore this for now. Who knows PFRDA may actually permit 100% equity investments. And who knows long term capital gains tax on sale of equity funds will start getting taxed after a few years?
In my opinion, as we have seen with EPF and PPF, once NPS becomes popular, it may be difficult to rollback tax benefits.
Please understand I have chosen the numbers (contribution, return, annuity rate) to suit my argument. You are advised to rework the numbers based on your assumptions and assess the impact for yourself.
What about investors in the lowest tax bracket?
If you fall in the lower income tax brackets, then it may not be as fruitful. First, you save less in taxes by investing in NPS. Secondly, NPS may not crowd out your other investments i.e. after investing in NPS you may not have much left to invest anywhere. I am not saying you should not invest in NPS if you fall in 10% and 20% tax brackets. However, you must consider these aspects before making your decision.
Here are the points to note:
- NPS is a smart tax saving choice for investors in 30% income tax bracket.
- Do not invest more than Rs 50,000 per financial year in NPS.
- Do not invest small amounts every month. Contribution charges will eat into your returns. You may be better off investing in 1 or 2 installments.
- NPS must not be your major investment. It should form only a small part of your overall portfolio.
- If you are planning for an early retirement, NPS is not for you.
- Forget about the money you invest in NPS till the age of 60/superannuation. If you can’t, NPS is not for you.
- If you have other sources of taxable income during retirement, then this analysis may not hold true. You must make necessary adjustments before making the decision.
38 thoughts on “Should you invest in NPS?”
Okay nice article as always! But I am still confused. In a previous article, you had raised some doubts about investing for pure tax saving as well as for investment purposes in NPS (http://www.personalfinanceplan.in/opinion/should-you-invest-rs-50000-in-nps-for-the-extra-tax-benefit/), don’t think this article sufficiently answers those doubts. Hmm
Dear Mukesh,
Tax incentives announced in budget 2016 made tax regime quite favourable for maturity proceeds of NPS.
Even in this post, the recommendation to invest in NPS is ridden with caveats. In my opinion, it is still not suitable for everyone.
There is a risk that regulator may compromise the product trying to turn it into a product which means everything to everyone.
So, you must see if it makes sense for you.
Any specific aspect you were referring to? I would like to include that in the post.
Thanks for replying. Yes, the article seemed to point that it may be better for high tax bracket. I was wondering how since it is only a tax deferral, unless you invest in annuity (That too when turning 60!)
Dear Mukesh,
NPS, post Union Budget 2016, is not just a case of tax deferral. You are actually saving tax.
Consider the following two points.
1. Up to 60% of the accumulated corpus can be withdrawn lump sum. 40% will be exempt from tax.
2. For the remaining 20%, you can split the amount over 9 years. You can withdraw smartly to reduce to your tax liability for those years.
By limiting investment to Rs 50,000 per year, your NPS corpus wouldn’t get too big. And you should actually be able to reduce your tax liability. There are still many ifs and buts but NPS makes a strong case now.
A lot over very useful information there, thanks.
However what will you suggest is a good pension scheme for an NRI, I am 45 years now and have the capacity to invest between 8 to 10 Lac Rs per annum in a suitable scheme with the hope I get a monthly pension from 60 years onwards.
Could you suggest something?
You can invest in NPS too.
However, please note any pension plan has an accumulation phase followed by distribution phase.
You can do without a pension plan.
You can accumulate wealth on your own and if you want regular income, you can purchase an annuity plan at the time of retirement.
As mentioned in the post, NPS is useful only if you have to save taxes.
Hence, you need to consider NPS only if NPS can help you save tax. If not, then there is no need to invest in NPS.
Don’t consider any other kind of pension plan.
Thanks
Hi Deepesh, today i have create new registration via eNPS using AADHAAR Card verification. I have following queries:
1. After doing first payment of 1000 rs, PRAN generated successfully and i got the receipt as well. Now i am again trying to do contribution of 49000 rs (so as to avail tax benefic under 80 ccd(1b)), but after entering PRAN and DOB, portal is giving error “The details entered are incorrect”, though the details are absolutely correct. Please suggest.
2. I am working in private firm and my company is deducting PF from my salary. There is some amount (1250 i think) that goes in pension as well from this PF contribution. I hope there is no constraint from the government that if somebody already contributing PF then he cannot purchase NPS ?
Hi Ajay,
1. Wait for a couple of days. If I remember correctly, activation of online access takes some time.
2. That is different. You can invest in NPS.
1> for me it took 5 days. i have registered on Friday and PRAN generated on the same day but unable to login. i think it takes 3 working days then after you can login.
Sir
I am PSU employee having pensionable job.My query is whether I can invest in NPS so that I may able to claim rebate under Section 80 CCD(1B).Kindly guide me.
You can open NPS account (assuming you do not already have NPS account).
can i claim 80ccd benefit of additional 50000/- . i am a PSU employee entitled for pension. i don’t have NPS .If yes then which plan is best for putting lumpsum.
Yes, you can get the deduction of additional Rs 50,000 for investment in NPS Tier-I account under Section 80CCD(1B).
Hi Deepesh,
A wonderful in depth post on NPS, Great efforts to make people aware.
I have both Tier- 1 and Tier -2 account under NPS,
1- If i want to invest for tax saving should it be only i Tier-1 to get benefit.??
2- I fall under 20% tax slab, so should I go ahead with NPS if not what all options is available ??
Regards
Hi Rahul,
Appreciate your kind words.
Please share the post with your friends and help increase awareness.
Tax benefit is only for investment in Tier I NPS.
No tax benefit for investment in Tier II NPS.
I have already expressed my opinion in the post.
Choice of investments depends on so many things. Therefore, it is difficult for me to comment.
Please consult a SEBI registered Investment Adviser.
Hi Deepesh,
Your article is very good and informative.
However, I would like to ask one more small question. Once we open NPS, is it mandatory to invest in it every year?
Suppose 5 years down the line i do not have sufficient funds due to increased responsibility that i cannot invest in NPS. Is it alright if I stop investing for a year or two?
Thanks Anubhav.
If you found the post useful, your friends may find the post useful too. Please share with your friends.
Rs 1000 is the minimum annual contribution.
If you can’t contribute this amount, the account will be frozen.
Very nice article. Thanks for the detailed analysis. I am a part of Corporate sector, and my company is offering to contribute 10% of basic. They will reduce this amount from other benefits. Should I convert my NPS account to corporate sector and take this additional tax benefit.
Thanks Sambaran!!!
Is there an option for EPF? or is this over and above EPF contribution?
Employer will make a matching contribution of up to 10% of basic,right?
Hi Deepesh,
A similar question like Sambaran,
I opened a NPS account on my own and invested 50k in last FY to avail 80ccd(1B) which I intend to do in coming years as well as it gives some tax relief.
Now I have an option to switch / transfer my PRAN with my company ( in corporate contribution) where the option is to start deductions upto 10% of my basic under tier1, I believe this is over and above EPF deductions and this NPS contribution will provide additional tax benefits ( over and above 80 ccd (1b) , hope this is a correct statement???) .
Please advise on your technical expertise whether it makes sense to contribute say 5k p.m via corporate deduction mode as well or
50k under 80ccd(1b) is good enough considering restrictions in NPS withdraw rules at retirement age.
I have 23 years more to retire , work in private sector and am under 30% bracket
Hi Ram,
If employer contributes, you will get benefit under Section 80CCD(2), which is over and above Section 80CCD(1B).
You will save 30% upfront. You need to see if this is worth the loss of flexibility and restrictions.
There is not right and wrong answer to this question.
Even for mandatory purchase of annuity, there are cases when annuities can be useful.
https://www.personalfinanceplan.in/opinion/when-purchase-annuity-plan/
Hi Deepesh,
Yes the employer will deduct that % or amount from my own salary but definitely from my CTC itself, is what I understand.
I hope this contribution of mine thru salary deduction under NPS contribution head also qualifies for 80ccd(2) 30% tax saving?
Right. Typically, employer contribution is adjusted against CTC.
If it was extra money, it was a no-brainer. You should have simply gone for it.
Right, you will save tax under Section 80CCD(2).
Thanks for your response Deepesh. Appreciate it !
I feel NPS is good only for Government and Insurance Companies , This scheme blocks the hard earned money in the name of social security. Government must remove 40 % cap and give choice to people where to invest their hard earned money?
Thanks for your inputs.
Hello Ram,
Thanks for an insight into NPS. I am 32 years old and am planning to retire at about 45 years of age. I would keep investing a minimum of Rs 1000 each year until I am 60. What are the cons of this plan with respect to if I retire at 60.
Regards,
Piyus.
Hi Piyus,
You can do that.
Just that your money is stuck until the age of 60.
If you are ok with that, I see nothing wrong with the approach.
Hi Deepesh
I tried to open a account under NPS with both tier 1 and 2 but i feel no need of tier 2 now. My registration is not complete but i could not able to open new again …showing adhar already registered with a payment option. What to do now. While paying through card they are charging 550 rs for 50k investment. Is it same for all mode of payment ?
Hi Jitendriya,
The fee will be high for credit card and debit card payments.
Pay through net banking option.
Hi Deepesh,
How does the comparison look now post the budget of 2017-18 as per which LTCG is in effect now? Does that make NPS a more preferable option compared to MF or Equity Funds?
Hi Ashish,
My stance remains the same post introduction of tax on LTCG too.
My age is 57 self employed , I am getting some amount from LIC maturity . Can I invest
same in NPS as Senior Citizen scheme is above 60 yrs. Can you suggest best option for
pension . Regards
Dear Sir,
Even though you can invest in NPS, I wouldn’t advise you to invest in NPS at this age.
You can purchase an immediate annuity plan from LIC ( Jeevan Akshay)
I am Central Govt. employee and serve for more than 10 years, i also have tier II account. Now I shall join in a NGO organization where EPF is there and i wish to contribute NPS account also. It will be possible or not. How i an keep active my NPS account after leaving job.
You can switch to eNPS or transfer your account to a PoP and keep contributing.
Hi all,
there is no post in 2021?
i am 25. i have opened eNPS acc tier1 as well tier2 online with help of aadhar card and selected both as auto aggressive choice . i am working for an IT company and having epf (2.5k from employee and the same for employer) contribution as well.
i am not doing any investment yet rather than just opened NPS account. i still confused-
1>shall i invest in nps regularly and if, then how much ( my 10% of basic salary is 2k)
2>is there any other options available better than NPS
3>tier2 investment or mutual fund ( but i don’t want lots of login to start/manage mutual fund)
need your guideline- thanks in advance
and thanks a lot for this knowledge sharing article