What is NPS (National Pension Scheme)?

Can somebody explain the pros & cons of NPS as compared with Employees’ Provident Fund (EPF), Public Provident Fund(PPF) and Mutual Funds? and also how do I open an NPS account?

National Pension Scheme (NPS) is a security scheme which was introduced by the Government to everybody, including non government employees, in 2014. NPS helps solving the problem related to Indians not saving for their retirement, which is sometimes a reason to push people below the poverty line when a regular income stops. A report from HSBC stated that 47% of the working Indian population have not started saving for retirement. It can be subscribed by any individual aged between 18 to 60 years old, including NRIs. A Permanent Retirement Account Number (PRAN) is to be obtained. The onboarding is easy and it is distributed through most financial institutions.

There are 2 sub accounts under the NPS known as Tier I & Tier II account. Tier I is mandatorily to be opened and Tier II is optional to the user. The minimum yearly contribution in your Tier I account is Rs 6,000, which can be paid either in one go or in installments of at least Rs 500. It is a basic pension account with limitations on withdrawal. Before attaining the age of 60, only 20% of the contribution can be withdrawn while the rest 80% has to be necessarily used for buying annuity from approved life insurers. Annuity is a series of payments received at fixed intervals of time. After attaining the age of retirement at 60, up to a maximum of 60% of the contribution can be withdrawn in lump sum (out of which 40% is tax free) and the rest has to be used to purchase annuity from approved life insurers.

The Tier II account works almost as a savings account with limitless withdrawals. A contribution of Rs. 1000 is to be made at the time of opening and a minimum balance of Rs. 2000 is required to be maintained.

The fund management fee is approximately 0.25% compared to mutual funds at 1.5-2%. Tax deduction of 10% in case of salaried employees and 20% in case professionals up to Rs. 1.5 lakh and an additional Rs. 50, 000 is allowed per year for Tier I accounts.

The NPS offers two approaches known as the active choice and the auto choice. Under the active choice, the subscriber can decide the percentages in which the contributed funds are invested between Equity, Corporate bonds and Government securities. Exposure to equities cannot be more than 50%. Under the auto choice, the exposure to the above mentioned asset classes are decided by the age of the subscriber.

Over the past 5 years, the various schemes have given annualized returns of 10.5-15.5%. NPS comes ahead of EPF/PPF/Mutual Funds due to the benefits of having an equity exposure and the fund management fee being considerably lower. A mix of NPS and another instrument having higher exposure into equities (like mutual funds) would be an ideal mix for the current employed population.