The National Pension Scheme or NPS has been covered in this blog multiple times in the past and is one of the top viewed articles. The article titled The National Pension System - De-Mystified covered the basic details about NPS and the article titled National Pension Scheme (NPS) - All your Questions Answered!!! tried to answer the possible questions you may have had about NPS. In August 2012, I wrote an article titled Is National Pension Scheme (NPS) A Worthwhile Investment Option? where we analyzed the fact that NPS Funds have outperformed many other investment options. Of late, there is significant interest in NPS because of the fact that NPS schemes have been able to give better returns than regular investment schemes.
Though the above 3 articles cover a lot of information about the National Pension Scheme, there are a few things that many investors do not know about the NPS. The idea behind this article is to dig deep and uncover those points so that people can reap the most benefit out of this wonderful scheme...
Unknown No. 1: You can use Your Employer to avail more Tax Benefits
Did you know that there is something called an NPS Corporate Investment Option?
Most of you are aware of the NPS Individual Scheme which gives tax deductions of up to Rs. 1 lakh ever year under Section 80C. However, under the Corporate NPS scheme, the limit is much higher. Under corporate NPS, your employer's contribution to your NPS account, subject to a maximum of 10% of your basic plus dearness allowance (DA), will not be included in your taxable income.
For ex: Let us say, your annual salary is Rs. 10 lakhs of which Rs. 6 lakhs is Basic + DA (Rs. 50,000 per month)
Your employer agrees to contribute Rs. 5,000/- every month towards your NPS account, your effective taxable salary comes down by Rs. 60,000/- every year. This Employers contribution towards NPS is not included in your annual taxable salary.
If you are someone in the 30% tax slab, you are effectively taking of Rs. 18,000 from your Tax Liability per year.
This does not mean your employer is going to be burdened more or is paying you more. Absolutely not. He is just deducting a portion of your basic salary and paying it towards your NPS account. Your monthly take home salary will come down accordingly but, your tax liability comes down as well plus you are saving money for your future.
Remember - Employers these days have started including NPS as part of the standard compensation package just like EPF, Gratuity etc. All that is required here is some commitment and effort your employers part to restructure the pay packages of their employees to help them get the maximum tax benefits. Plus, I read somewhere that Employers can deduct this as business income for their tax purposes and reduce their tax liabilities as well.
No matter how high your salary is, only 10% of your Basic + DA can be deducted from your taxable salary, if it is contributed by your employer every month towards your NPS Account. However, your individual contribution will still come under the Section 80C and will be subject to the 1 lakh upper limit. If you contribute lets say Rs. 25,000 per month to NPS, your tax benefit will still be Rs. 1 lakh only.
Talk to your employers Finance Department about tweaking your salary structure. You can remove any existing allowances which you may not use and is fully taxable and direct that towards NPS. Your employer may or may not agree to your request immediately. But, if more employees turn up requesting this option, the employer will eventually agree. Strength In Numbers!!!
Unknown No. 2: Investing In Equity Schemes is not Mandatory
One of the main reasons why people are scared about investing in NPS is the fact that, they invest in Equities as well. The unfortunate part here is that, most people do not know the fact that, Investing in Equity Schemes is not Mandatory.
There are three schemes in NPS:
1. Scheme E or equity fund option (maximum of 50% of one's investment)
2. Scheme G or gilt fund option, and
3. Scheme C or corporate bond fund option.
As you can see, as the investor you can choose to invest 100% of your monthly contributions in just the Schemes C & G. Some people choose the Auto option. Even in that option, only 50% of your corpus will go into equities and the rest will go only into Scheme G or C.
Equity exposure in NPS is restricted to stocks that have derivatives. This means that in India you have approx. 150 odd stocks, mostly blue chips and large caps which fall into this bucket. These aren't small-caps or mid-caps and are therefore much more stable in terms of price.
If you did not open an NPS account for fear of investing in Equities, just relax and go open an account by choosing Schemes C & G as your options. Personally, I would suggest that you retain a 15-20% exposure even if you are the most conservative investor because, in the long run, Equities have always been the best investment product and you will not regret the decision. At the end of the day even Schemes C & G have done really well and with compounding of interest for many many years until you retire, even this can help you accumulate a Sizeable Retirement Corpus.
Unknown No. 3: You can Do a One-Time Lump Sum Withdrawal at Retirement
Question No. 29 in the article titled National Pension Scheme (NPS) - All your Questions Answered!!! in our blog dealt with the question on withdrawal of our corpus at retirement. Though the answer was correct at the time the article was written, there have been some recent developments that made the answer incorrect - Today.
Through a recent change in policies, NPS will now allow you to withdraw the 60 per cent corpus as a lump sum any time between the age of 60-70. The Remaining 40% has to be used to buy an Annuity plan (Just like before). Earlier, you had to do only a phased withdrawal every year. This recent change gives us more control on what we do with our retirement corpus. We can use it for some purpose or invest it in other instruments as well.
Note: This rule is only applicable at retirement. This does not affect your investments up until you reach your 60 year mark or retire...
Unknown No. 4: Taxation at Maturity
Another big worry for Investors into the NPS Scheme is the Taxation at Maturity aspect. There are currently rumors going around that the Direct Taxes Code has proposed to make the Maturity Proceeds tax free at the hands of the Investor. Though this proposal hasn't been approved yet, there is a pretty good chance that it will be approved by time you and I retire (which is at least 10 years or more from now)
In the odd-chance that the Maturity corpus is taxable, there is not much to worry either because, post retirement we will obviously fall under lower tax brackets. So, the actual tax we may end up paying will be little or even none.
So, for now, let us just concentrate on investing and building our retirement corpus using NPS as one of the instruments. Eventually the DTC Tax Code will make the maturity proceeds tax free which will just be the icing on the cake.