The National Pension System (NPS) helps you accumulate a retirement nest egg, but the fact that it allows you to put only 50% of your money in equities has been a serious shortcoming. Another feature of NPS that financial planners have always flagged is limited partial withdrawal facility. Not anymore.
At a recent board meeting, the Pension Fund Regulatory and Development Authority (PFRDA) approved increasing equity allocation from 50% to 75% for private sector NPS. Further, the board has decided that subscribers will also be allowed to make partial withdrawals for higher education or for acquiring professional and technical qualifications, or for setting up a new business. This adds to the list of reasons based on which you can make partial withdrawals.
The regulator has also expanded the universe of corporate bonds for NPS investment.
NPS is a market-linked product that allows you the choice of four funds: government securities fund or scheme G; fixed income instruments other than government securities fund or scheme C; equities fund or scheme E; and alternative investment fund or scheme A.
You can decide your asset allocation within the overall caps—there’s a 5% cap on alternative investments and 50% cap on equity investments currently. Going forward, the cap on equity allocation will increase to 75% bringing the active choice option (that lets you choose your asset allocation) on par with the auto choice option (here your investment is structured as per your age and tenure).
Under the auto choice option, the aggressive life-cycle fund strategy starts with equity allocation of 75% till 35 years of age and tapers off to 15% by age 55. The maximum allocation of 75% into equities is for individuals who are less than age 35. For instance, a 45-year-old who opts for aggressive investment strategy starts with an equity allocation of just 35%.
Allowing 75% allocation in equity funds under active choice helps. “Maximum people who join the private sector NPS are older than 40 years of age, but now even younger people (36-40 years) will be encouraged to invest as they can take a greater exposure to equities,” said Sumit Shukla, chief executive officer, HDFC Pension Management Co. Ltd.
Under the NPS, the equity fund is actively managed and you can choose from eight fund managers to manage your money currently. But keep in mind that even under the active choice, there will be tapering of the equity component after 50 years of age such that the allocation is no more than 50% on retirement.
The board has also decided to allow investing in ‘A’ rated bonds in the case of corporate bond portfolio, something the finance minister in his budget speech urged the regulators to consider.
PFRDA has approved investments in ‘A’ rated bonds subject to a cap of 10% of the overall corporate bond portfolio—this includes private as well as government sector NPS. The highest credit rating is ‘AAA’ followed by ‘AA’ and then ‘A’.
“Nearly 40% of NPS money is parked in corporate bonds, so if we restrict ourselves to ‘AA’ bonds, availability becomes a problem. Also, in terms of risk, there isn’t much difference in the default risk between AA- and A-rated bonds,” said Hemant G. Contractor, chairman, PFRDA.
The other significant decision is to allow you more reasons to withdraw money partially. But the number of times you can withdraw doesn’t change. You can withdraw from your retirement account under the NPS after three years and only up to 25% of your own contribution.
Further, you are allowed to make a partial withdrawal only thrice. Currently, you can make withdrawals for medical emergencies, house construction, and education and marriage of children. Read more about this here.
You can also make withdrawals for higher studies or to get professional qualification or to start a new business.
Mint Money Take
NPS now allows you greater exposure to equity investment, which is a positive, given that it’s a long-term vehicle. In future, the pension regulator may lift the cap on equities altogether—the G.N. Bajpai Committee report ultimately wants to do away with caps and allow a 100% exposure to equities.
But does NPS become that one retirement vehicle that you can target to build your retirement nest egg?
Not really, and the primary reasons are tax treatment and the fact that on maturity you have to mandatorily annuitise 40% of the money you get from your NPS investment. In other words, you take an interest rate risk with 40% of your corpus. “If you have accumulated Rs100 on maturity, you need to buy an annuity product with Rs40. The annuities are, however, subject to income tax. From the remaining Rs60, only Rs40 is tax-free and you pay income tax on Rs20. So the tax treatment is not very friendly,” said Priya Sunder, director, PeakAlpha Investment Services Pvt. Ltd.
“However, the product has improved a great deal from an administrative point of view and I recommend an investment of Rs50,000 that also gives you an extra tax advantage,” she added.
There is an extra deduction of Rs50,000 under Section 80CCD (1b) of the income-tax Act, which is in addition to the overall deduction of up to Rs1.5 lakh under Section 80C.
According to Contractor, PFRDA will notify these changes soon.