A tax-saver that will help you retire in peace too

Who can join NPS?Any Indian citizen (resident or non-resident) or an overseas citizen of India, aged between 18 to 70 years is eligible.NPS is mandatory for central government recruits with effect from January 1, 2004 (except armed forces). Subsequently, various state governments have also adopted the same. For other eligible individuals, NPS is voluntary.Eligible employees of a corporate entity that has implemented NPS can contribute through their employer.The two accountsThe NPS is structured into two types of accounts. Tier-I account is the default pension account and Tier-II account is an optional investment account. A Tier-II account is allowed only when there is an active Tier-I account in the name of the subscriber. NRIs/OCIs are not eligible to operate a Tier-II account. While there are withdrawal restrictions and income-tax benefits in relation to the Tier-I account, the Tier-II account has no restrictions on withdrawal and no tax benefits.The fund managersThe subscriber can choose any pension fund registered with the Pension Fund Regulatory and Development Authority (PFRDA) to manage the funds. The pension funds presently registered for the private sector are HDFC Pension Management, ICICI Prudential Pension Management Fund, LIC Pension Fund, SBI Pension Funds, UTI Retirement Solutions and Aditya Birla Sunlife Pension Management.Recently, the PFRDA has issued guidelines for registration of new pension funds on a yearly basis to manage the funds of NPS subscribers. medium85004572The investmentsThe subscriber can choose different asset classes for investment through ‘active’ choice or ‘auto-choice’ options.In the active choice option, the subscriber actively decides the allocation of funds across asset classes i.e. equity (E), corporate bonds (C), government securities (G) and alternative assets (A), within limits prescribed.In the auto-choice option, the funds get invested across asset classes in a pre-determined proportion as per the age of the subscriber. The returnsThe returns from NPS are market based and depend on the amount of contribution made, investment choice, return on investment made and so on. Based on the data on returns of NPS schemes as on June 30, 2021 published by NPS Trust, the annualised return for five years from Scheme E Tier I account, in which the fund managers predominantly invest in equity, is presently about 13% to 15%. The rate of return for such accounts for the last 12 months has been 48% to 56%. The annualised return for five years from Scheme G, C and A Tier I accounts have also ranged between 8% to 10%.Compared to this, the interest in relation to statutory Provident Fund (PF) and Public Provident Fund (PPF) are based on fixed rates of interest notified by the government. The interest in relation to PF has been 8.5% to 8.65% over the last five years and the interest on PPF is 7.1%.How to withdraw or exitPartial withdrawal of 25% of one’s own contribution is permitted after completion of three years for specific reasons such as illness, disability, education or marriage of children, purchasing property or starting a new venture. A subscriber can partially withdraw a maximum of three times during the entire investment tenure.Premature withdrawal is permitted after completion of 10 years or before completion of three years (if the subscriber has joined NPS after 60 years of age). Maximum 20% of the corpus can be withdrawn as a lump sum and minimum 80% of the corpus has to be utilised for purchasing an annuity plan for receiving pension. If the accumulated corpus is less than Rs 2.5 lakh the entire corpus can be paid as a lump sum to the subscriber. medium85004590Normal withdrawal is permitted on completion of 60 years of age or after completion of three years (if the subscriber has joined NPS after 60 years of age). A maximum of 60% of the corpus can be withdrawn as lump sum and minimum 40% of the corpus has to be utilised for purchasing an annuity plan for receiving pension. If the accumulated corpus is less than Rs 5 lakh, the entire corpus can be paid as a lump sum to the subscriber.The subscriber has the option to continue in NPS till the age of 75 years or exit any time after such continuance before 75 years. While exiting from NPS, subscribers can (i) defer receiving the lump sum (60% corpus) till the age of 75 years or withdraw the same in instalments till 75 years and/or defer the annuity purchase (40% corpus) for a maximum period of three years.In case of death of the subscriber, the nominee/ legal heir can withdraw the entire accumulated corpus or can also purchase annuity, if they so desire.Withdrawal or exit from Tier-II account is unrestricted. The Tier-II account is compulsorily closed upon closure of the Tier-I account.The pensionUpon withdrawal or exit, subscribers can purchase annuity from annuity service providers empanelled with PFRDA and receive pension as per terms and conditions of the annuity plan.Tax benefits during contributionEmployers’ contribution to NPS is taxable as perquisite in the hands of employees as per the Income-Tax Act, 1961 (the Act). However, the Act also provides a deduction for the same up to the amount contributed by the employer or 10% of salary (basic salary and dearness allowance), whichever is lower. In case of Central government employees, a deduction of up to 14% of salary is allowed.Where the aggregate amount of contribution made by an employer to the employee’s account for PF, superannuation fund and NPS exceeds Rs 7.5 lakh in a financial year, the excess is taxable in the hands of the employee. Further, the annual accretion, i.e. interest, dividend etc relating to such excess contribution is also taxable.The employee’s contribution to NPS is eligible for deduction up to the amount contributed or 10% of salary (basic and dearness allowance) whichever is lower. For individuals other than employees, deduction is available up to 20% of gross total income. Such deduction in relation to employee’s contribution is subject to an overall limit (including other eligible investments) of Rs 1.5 lakh under Section 80CCE. An additional deduction of Rs 50,000 is available under Section 80CCD(1B). medium85004619Tax exemptions during withdrawalThe lump sum amount received up to 60% of the corpus at the time of withdrawal is exempt from tax. The remaining 40% invested in annuity is also not taxable, however, the pension would be taxable when received.Further, payment from NPS on partial withdrawal in accordance with the terms specified by PFRDA is exempt to the extent the amount does not exceed 25% of contribution made by the individual.While contributions to PF, PPF and NPS provide deduction at the time of contribution, subject to limits, the returns from PPF are exempt from tax. Refund received from PF is also exempt from tax if such refund is received after continuous contribution of 5 years or in certain specified circumstances. Although the amount of lump sum withdrawal and amount used to purchase annuity are exempt at the time of withdrawal from NPS, the annuity income/pension received from the annuity is taxable.The authors are tax partner and tax director, EY India(Views expressed are personal)