National Pension Scheme
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|National Pension Scheme (NPS)|
NPS , also known as National Pension System is a quasi EET instrument where 60% of the corpus is taxable while 40% escapes tax. From 2016, additional tax benefit of Rs 50,000 under Section 80CCD(1b) is provided under NPS, that is over the Rs 1.5 lakh emxemption of Section 80C. Fund management and asset allocation is an important part of NPS.
The National Pension System (NPS) is a voluntary defined contribution pension system administered and regulated by Pension Fund Regulatory and Development Authority (PFRDA) created by an Act of Parliament of India. The NPS started with the decision of Government of India to stop defined benefit pensions for all its employees who joined after 1st Jan 2004. While the scheme was initially designed for government employees only, it was opened up for all citizens of India in 2009. NPS is an attempt by the government to create a pensioned society in India. In its overall structure NPS is closer to 401(k) plans of United States.
NPS regulatory framework
In 1999 the Government of India commissioned a national project “OASIS” (an acronym for old age social & income security) to examine policy related to old age income security in India. Based on the recommendations of the OASIS report, Government of India introduced a new Defined Contribution Pension System for the new entrants to Central/State Government service, except to Armed Forces, replacing the existing system of Defined Benefit Pension System.
On 23 August 2003, Interim Pension Fund Regulatory & Development Authority (PFRDA) was established through a resolution by the Government of India to “ promote old age income security by establishing, developing and regulating pension funds, to protect the interests of subscribers to schemes of pension funds and for matters connected therewith or incidental thereto.” The Pension Fund Regulatory & Development Authority Act was passed on 19 September 2013 and notified on 1st February 2014 thus setting up PFRDA as the regulator for pension sector in India. However, there remains considerable amount of confusion with other entities like Employee Provident Fund, Pension funds run by Life Insurers and Mutual Fund companies being outside the purview of PFRDA.
The contributory pension system was notified by the Government of India on 22 December 2003, now named the National Pension System (NPS) with effect from the 1st January 2004. The NPS was subsequently extended to all citizens of the country w.e.f. 1 May 2009 including self-employed professionals and others in the unorganized sector on a voluntary basis.
Unlike traditional financial products where all the functions (sales, operations, service, fund management, depository) are done by one company NPS follows an unbundled architecture where the each step of the value chain has been made disjointed from the other. This unbundling not only allows customer to mix and match his providers of service through the value chain, picking best-suited option, it also curbs the incidence of misselling
NPS architecture consists of NPS Trust which is entrusted with safeguarding subscribers interests, a Central Recordkeeping Agency (CRA) which maintains the data and records, Point of Presence (POP) as collection and distribution arms, Pension fund managers (PFM) for managing the investments of subscribers, Custodian to take care of the assets purchased by the Fund managers and Trustee bank to manage the banking operations. At age 60 the customer can choose to purchase pension Annuity Service Providers (ASP)
Current CRA is National Security Depository Limited (NSDL). All the major commercial banks and brokers perform the role of PoP. The subscriber can choose anyone of them. There are 7 fund managers and 8 annuity service providers for subscribers to choose from. The subscriber can choose to invest either, wholly or in combination, 3 types of investment schemes offered by the Pension Fund Managers. These are Scheme E (Equity) which allows up to 75% equity participation, Scheme C (Corporate Debt) which invests only in high-quality corporate bonds, Scheme G (Government Bonds) which invest only in government bonds. Alternatively, the subscriber can opt for default scheme where as per the time left to retirement his portfolio is rebalanced each year for the proportion of Equity, Corporate Bond, and Government Bonds.
NPS offers two types of accounts to its subscribers. The primary account is Tier I which is a pension account which has restrictions on withdrawals and utilization of accumulated corpus. All the tax breaks that NPS offers are applicable only to Tier I account. In order to introduce some liquidity in the scheme, the PFRDA allows for Tier II account where subscribers with pre-existing Tier I accounts can deposit and withdrawn monies as and when they want.
Who can join NPS
A citizen of India, whether resident or non-resident can join NPS, subject to the following conditions:
1. The subscriber should have age between 18 – 60 years as on the date of submission of his/her application to the Point of Presence (POP) / Point of Presence–Service Provider -Authorized branches of POP for NPS (POP-SP).
2. The subscribers should comply with the Know Your Customer (KYC) norms as detailed in the Subscriber Registration Form.
Un-discharged insolvent and individuals of unsound mind cannot join NPS
NPS charge structure
NPS is arguably one of the cheapest pension plans in the world. Many critics have pointed out that such a low charge structure is one of the reasons that NPS will not be able to expand beyond the captive government segment nor be able to attract good talent. The charge structure of NPS is given below
• POP charges: Rs 125 as one-time enrollment fee and thereafter 0.25% (Min rs 20 and max Rs. 25000) on every financial transaction. Rs 20 for a non-financial transaction. These charges are collected upfront.
• CRA charges: Rs 50 for account opening, Rs 4 for every transaction and Rs. 190 annual maintenance charge. These charges are collected through cancellation of units in subscribers fund.
• Fund Management Charge: Currently 0.01% of the fund value. This charge is collected through deduction of units.
• Custodian charges: 0.0075% for electronic segment and 0.05% for physical segment
Withdrawals from NPS
Prior to age 60
NPS restricts withdrawals before the age of 60. As per latest regulations subscribers can make withdrawals from the scheme only after 10 years, only 3 times during the entire duration and at no point in time will withdrawals exceed the sum total of contributions made by the subscriber. The contribution made by the employer, on behalf of their employees, will not be counted as subscriber’s contribution. In effect NPS, being a pension scheme actively discourages withdrawals of any kind.
Post age 60
At age 60, minimum 40% of the accumulated corpus has to be used to purchase an annuity. The subscriber can withdraw up to 40% of accumulated corpus tax-free. Rest 20% can be withdrawn lump sum and the amount will be considered taxable. Alternatively, the subscriber can withdraw this 20% over a period of 10 years. The intent is to encourage subscribers to defer their withdrawals
Till recently the age of 60 was fixed as NPS account termination date. However recently the PFRDA has made changes to NPS whereby subscribers can, if they choose to, defer their age for withdrawal from 60 to anytime before age 70. This has been done in response to increasing trend of people continuing to work beyond the age of 60.
Tax Benefits for NPS
Investment in NPS is eligible for tax benefits as follows:
- Up to Rs. 150,000 under Section 80CCD(1). The benefit is additionally capped at 10% of Basic Salary. Benefit under Section 80C, Section 80CCC and Section 80CCD(1) is capped at Rs 150,000.
- Up to Rs 50,000 under Section 80CCD(1B). This is over and above tax benefit under Section 80CCD(1).
- Up to 10% of basic salary for employer contribution towards your NPS account under Section 80CCD(2). Salaried employees can claim this benefit only f NPS is offered by their employer
- FAQ for Pensioners
- India's pension reforms: A case study in complex institutional change by Surendra Dave, page 149–170 in `Documenting reforms: Case studies from India', edited by S. Narayan, Macmillan India, 2006.
- Indian pension reform: A sustainable and scalable approach by Ajay Shah, Chapter 7 in `Managing globalisation: Lessons from China and India', edited by David A. Kelly, Ramkishen S. Rajan and Gillian H. L. Goh, World Scientific, 2006.
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- The Gazzette of India
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- National Pension System Trust
- National Pension System (NPS) Leaflet