National Pension System (NPS) is a market-linked retirement scheme introduced by the Government of India. This is a long-term investment plan for creating regular income flow after retirement to all its subscribers. Citizens above the age of 18 and above the age of 65 are eligible to invest in NPS.
Types of NPS accounts
NPS accounts can be Tier 1 or Tier 2. You create a Tier 1 account primarily for accumulating a corpus for your retirement. An NPS Tier 2 account acts as a voluntary savings account.
ā NPS Tier 1
An NPS Tier 1 account is a mandatory retirement account. Both government and private sector employees are eligible. This account comes with a lock-in period but allows premature withdrawals that subject to certain conditions.
ā NPS Tier 2
You can open this non-retirement and voluntary NPS account only if you have an NPS Tier 1 account. But unlike Tier 1 accounts, Tier 2 allows flexible withdrawals and exits. Government employees opting for NPS Tier 2 accounts are subject to three years of the lock-in period.
How are Tier 1 and Tier 2 accounts different?
A Tier 1 account is purely for saving for retirement. However, you can open an optional Tier 2 account to save for all financial needs, be it short- or long-term.
A Tier 1 account offers tax exemption, unlike a Tier 2 account. However, it is not liquid because of the lock-in period allowing investors to withdraw only after 60 years of age. A Tier 2 account offers ample liquidity.
Tier 1 and Tier 2 returns
The Pension Fund Regulatory and Development Authority (PFRDA) regulates the NPS.
Like mutual funds, NPS is also market-linked and does not have a fixed interest rate. It invests in equity, government and corporate bonds, and alternate assets. The CAGR or Compounded Annual Growth Rate shows the growth of these assets over time.
As of 2019, these are the averageNational Pension System returns since its inception in 2004:
| Asset | NPS Tier 1 | NPS Tier 2 |
| Equity | 10.67% | 9.15% |
| Corporate bonds | 10.31% | 9.57% |
| Government bonds | 10.15% | 10.31% |
| Alternate assets | 7.67% | ā |
According to NPS Trustās August 2021 records, some promising Tier 1 and Tier 2 schemes are:
| Pension fund name | Tier | NPS return rate since inception |
| HDFC Pension Management Co. Ltd. | Tier 1 | 15.81% |
| SBI Pension Funds Pvt. Ltd. | Tier 1 | 10.42% |
| Kotak Mahindra Pension Fund Ltd. | Tier 2 | 11.24% |
| LIC Pension Fund Ltd. | Tier 2 | 11.19% |
NPS tax benefits
NPS Tier 2 returns do not qualify for a tax deduction. Further, when you exit this scheme, your accumulated corpus is taxed.
However, Tier 1 NPS returns are exempt from tax under Section 80 CCD (1). You can claim a deduction of up to Rs. 1.5 lakhs. An additional deduction on NPS returns applies to investments up to Rs. 50,000 under 80CCD (1B).
NPS investors under corporate sector can avail additional tax benefits under subsection 80CCD (2). Here, up to 10% of salary is deductible from taxable income.
Concluding Thoughts
Before investing in NPS, be clear about which type of account caters to your investment objective. You can then select a suitable pension fund with your desired expected rate of return on your NPS investment.
Additionally, you could also look into different investment avenues like mutual funds and stock to grow your wealth and meet your short- and long-term goals. Reach out to a financial advisor today to explore your options that are suited to your investor profile.
