Things you may not know about the NPS

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.

Note:

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.

Note:

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.

TO DO:

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.

Note:

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.

TO DO:

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.

Happy Investing!!!

Is National Pension Scheme (NPS) A Worthwhile Investment Option?

Around a year and a half ago, I wrote an article titled The National Pension System – De-Mystified in which we had taken a detailed look at this National Pension Scheme (We will refer to this as NPS throughout this article) that the Government of India started in 2009. A few days later there was a subsequent article titled National Pension Scheme - All your Questions Answered!!! in which I had tried to answer our blog readers questions on the NPS. It has been over 3 years now since the Government of India started the NPS. The purpose of this article is to analyze if the NPS Schemes have lived up to their expectations and the future course of action for the Indian Investor

How the Different NPS Fund Houses have performed over the Past 3 years

As outlined in the article introducing the NPS, there are several Fund Managers that an investor can choose from when he/she opens the NPS Account. Each of these fund managers may choose to invest in a different set of instruments and hence the returns will not be uniform. As a general categorization, the NPS Fund Managers manage 3 categories of funds in Tier 1:

a. Category E – Equities
b. Category C – Corporate Bonds
c. Category G – Government Securities

Different Fund Managers have performed differently in each of the above categories. After gathering details about the performance of each of the different fund managers, I have shortlisted the best or rather top 3 performers in each category over a 3 year time period. They are:

Equities – Category E Funds:
1. Kotak – 6.82%
2. ICICI Prudential – 6.43%
3. IDFC – 4.98%

Category Average Returns = 5.58%

Corporate Bonds – Category C Funds:
1. Kotak – 12.05%
2. ICICI Prudential – 11.59%
3. IDFC – 9.24%

Category Average Returns = 9.97%

Government Securities – Category G Funds:

1. Kotak – 7.95%
2. ICICI Prudential – 7.7%
3. UTI – 7.5%

Category Average Returns = 7.32%

Note:

All returns above are over a 3 year period. Don’t be amazed by the dismal returns generated by the Equity funds. The Indian stock market has been extremely volatile over the past few years and a positive returns % indicates the fact that the fund managers have done a great job.

As you can see, the funds managed by Kotak and ICICI Prudential have been the top 2 in all of the categories.

Is the NPS Scheme Popular?

The simple answer would be – NO…

If you wish to dispute this claim and say that NPS is popular, stop for a moment and give me an answer to this question – “Do you have an NPS Account?” The answer you will give in response to this question is the answer to the question above as well…

Problem No. 1: Have you seen any advertisement by any fund house about the performance of their funds in NPS? For ex: the schemes managed by Kotak Pension Fund have churned out the best possible returns in all the 3 categories. ICICI Pru has been the 2nd best performer. So, given this fact, have either of these two fund houses advertised their success? This whole phenomenal success has gone almost unnoticed. Nobody publicized the fact that their schemes in NPS were successful. Whereas, the same Kotak and ICICI Pru fund houses always advertise their best performing Mutual Fund Schemes. Why this disparity???

Problem No. 2: Have you seen anybody trying to sell NPS Schemes to investors? The NPS has approx. 25 lakh investors out of which almost everyone is from State & Central Government for whom NPS is compulsory. The distributors are not selling NPS at all. In fact, less than 50,000 people have voluntarily invested in NPS in the past 3 years. Why do you think this is happening?

Why Fund Managers are not advertising their Schemes in NPS?

The simple answer is – MONEY!!!

The fees that fund managers receive for managing the NPS schemes is nothing short of dismal. The fund management charge is 0.0009% which means, a fund manager get Rs. 9/- for managing Rs.10,00,000/- for one year. The average fee for managing a similar number in Mutual funds works out to a 4 digit number and the same for ULIPs is a 5 digit number.

Why Distributors are not selling NPS Schemes?

The simple answer to this question too is – MONEY!!!

I could not find the actual commission/fee that Distributors get for selling NPS but I would assume it will be around the same range as what the fund managers get. If the fee the person who manages the money (Fund Manager) is only Rs. 9/- for a 10 lakh investment, what do you think the distributor will get for selling NPS Schemes? Distributors feel that the profits they earn out of selling this low-cost scheme does not justify the amount of money or resources that go into selling it.

What is being done to fix this?

The PFRDA has been contemplating increasing these fee & commission charges that the distributors and fund managers receive for dealing with NPS. Hopefully this upward revision of fee will be the much needed boost to both the fund managers as well as distributors to take NPS Seriously.

However, a point to note here is that, no concrete numbers have been released by the PFRDA yet. However, it is expected to come out very soon. But, experts from the industry feel that the number would be around 0.25% (Rs. 2,500/- per Rs. 10 lakhs) which is a sizeable increase when compared to the current dismal figures.

Will this affect the Investor?

Of Course, it will. However, the impact will be almost negligible. Mutual Funds charge around 1-2% per year and ULIP’s charge even more. If we consider a 0.25% fee for the fund manager and the same for the distributor, for every 10 lakhs you invest, 9.95 lakhs is going to be effectively invested which is much higher than what happens in the case of Mutual Funds or ULIPs. So, it is safe to say that the impact will be very minimal.

How Increasing the Fee’s will help?

First of all, if the fee fund managers get is reasonable for the effort they spend managing the money, they will start advertising the fact that they are managing X Crores of money for NPS. Second of all, if distributors can make a reasonable income by selling NPS products, they will start advertising as well as selling NPS Schemes to investors. So, it will be a WIN-WIN Scenario.


Is National Pension Scheme (NPS) A Worthwhile Investment Option?

Of Course – YES.

Frankly speaking, the NPS Schemes are managed by the same expert fund managers who manage the top mutual fund schemes of India. So performance wise it would be safe to say that NPS schemes will fare at around the same level as regular mutual funds.

More importantly, the fee’s charged by NPS is the least in the industry. Even if we assume a 0.25% fund management fee and a 0.25% distributor fee, the overall fee’s paid works out to less than 1%. The fees and charges for Mutual Funds and ULIP’s or other Pension Plans is much higher. So, effectively more of our money will get invested and in turn, we will get better returns.

To further substantiate my claim that NPS is a better investment option than a ULIP Pension Plan – due to the lower fee structure, the next article is going to be a comparison in terms of overall returns between the NPS and ULIP Pension Plans.

If you are still not too sure if the NPS is a good investment option in comparison to the regular ULIP Pension Plans that are being sold aggressively, just relax, the feeling is very common. The next article will be a simple returns comparison between the two products to help you decide...

Happy Investing!!!

National Pension Scheme

Of late, the National Pension Scheme (NPS) is one of the most talked about topics among people of our country. The NPS is a new initiative by the government of India to help us.
Retirement is something that every person who is earning needs to plan for. Once we cross the age of 60, our earning potential goes down and we are dependent on our savings for our sustenance. So it is advisable to save some money in our retirement corpus so that we can have a comfortable old age. Unfortunately, for most of us, apart from EPF (Employee Provident Fund) we do not have any saving instrument to save for our retirement. In countries like the US we have Social Security and hence the whole burden of survival after retirement does not fall on the person. But in India we do not have such a feature.
To overcome this problem, the government of India has come up with this NPS.

What is NPS?

NPS is a retirement saving option that can be availed by all citizens of this country. This functions more or less like a ULIP. Our money would be invested in the equity markets and also the debt market. The minimum investment to begin with is Rs. 6000/- per year. The government is going to avail the services of top fund managers from SBI, UTI, Kotak, ICICI etc to manage the corpus. Our money would be saved in Individual Retirement Accounts (IRAs) People who are sure of their risk appetite can choose the type of fund they want their money to be invested in. You can choose high equity exposure or high debt exposure based on your comfort level. For people who are not sure about this can opt for the default option. The default option works in life-stage principle. During the initial phases equity exposure would be high and after 35 years of age, it goes down and debt exposure would increase. This is to provide for capital appreciation when the investor is young and capital preservation as our age goes up.

After our retirement we can withdraw a portion of our IRA corpus as a lumpsum amount and the balance must be compulsorily be invested in annuities that give us a regular monthly income.

How would the NPS Work?

This scheme will have 3 intermediaries:

1. One to collect the contribution
2. One to manage the fund
3. One to take care of the disbursement

To ensure wide distribution, the PFRDA (Pension Fund Regulatory & Development Authority) has authorized 23 players comprising of banks, mutual funds etc through which we can invest in the NPS.

What are the costs involved with NPS?
Since the NPS is floated by the government and is targeted at the common man, the costs involved are not so high. The initial joining fees is Rs. 350/- and a registration fees of Rs. 40/- Once your account is created you will get a Permanent Retirement Account Number (PRAN)

The only incremental cost is the Rs. 20/- transaction fees that has to be paid every time we make a fresh contribution to our account. Apart from this, there is also a fund management fees. This is 0.0009% of our investment which works out to Rs. 9/- per every 10 lakh invested. In contrast a normal mutual fund house would charge us as high as Rs. 22,500/- and a ULIP would cost us even more.

Benefits of investing in NPS:

The NPS has a target audience of nearly 80 million Indians who are employed and are earning. There are a number of benefits in this scheme that would make it attractive for us

1. Simple – The scheme is very simple and easy to understand for the common man
2. Scalable – This scheme has the ability to handle any number of investors
3. Portable – Can be accessed from anywhere in the country
4. Flexible – It offers us varied investment options and also withdrawal facilities. We can make annual or half yearly or even quarterly payments into our IRA
5. Low Cost – This is one of the most important and significant benefits of this scheme. This is by far the cheapest investment option.

Negatives:

As in every investment option, when you have benefits, there would be negatives also. There are certain aspects that we need to consider before investing in the NPS

1. Not Mandatory – This scheme is not mandatory and hence the investment is purely based on individual interest. The purpose of this scheme is to provide retirement corpus for its citizens and since it is not mandatory, it may not serve its intended purpose effectively
2. Low awareness – Though this is a great option of investing for our retirement, the awareness among our public regarding this scheme is very low. Most of our population is not aware of this scheme
3. Low Tax incentives – There are no specific tax incentives available for us to motivate us to invest in this scheme
4. Too early to judge – This is a new scheme and we do not know the kind of returns that we can expect from this scheme. Also everything is theoretical and we are yet to see it functioning.

What should we do now?

This is a new scheme and the PFRDA is expected to pass bills and amendments and activate this scheme. The scheme will be launched on April 1st and nearly 80 million Indians including you and me are eligible to invest in this scheme.
The initial investment amount is very small and we can opt to invest in this scheme with a small amount and based on the kind of performance offered by the fund managers we can opt to increase our yearly investments.

Where can we buy?
As many as 23 institutions have been approved by the PFRDA as PoPs (Points of Presence) for the NPS. All citizens other than government employees covered under the pension scheme can buy NPS through the below centers.

1. Allahabad Bank
2. Axis Bank
3. Bajaj Alliance General Insurance Co.
4. Central Bank of India
5. Citibank
6. CAMS India Pvt Ltd
7. ICICI Bank
8. IDBI Bank
9. Kotak Mahindra Bank
10. LIC of India
11. Reliance Capital
12. State Bank of India
13. Union Bank of India
14. UTI Asset Management Company etc…

Happy Investing!!!