Thread by @Turtlemoneycirc

Does It Make Sense To #Invest In The National Pension Scheme?

A thread 🧵👇

National Pension Scheme is a defined contribution scheme launched in 2004.

There are two vehicles to make your investments in:

1️⃣ Tier 1
Tier 1 is primarily for retirement where you get the tax benefits as well.

2️⃣ Tier 2
Tier 2 is for those who want to make voluntary contributions with an option withdraw at any time.

You need a tier 1 account to open a tier 2 account.

Please note the following:

1. We will only focus on Tier 1 accounts in this post today.
2. We will only focus on contributions by Private sector employees or self-employed folks.

How to Open A Tier-1 Account -

A tier-1 account can be opened directly on enps.nsdl.com.

Most banks also provide an option to open an account through their net banking facilities.

💡Open it through your #bank. The documentation requirement goes down significantly.

How Do You Invest?

At the time of opening the account, you will be provided with an option to select the #pension fund manager.

There are 7 fund managers as follows –

a. HDFC Pension Management
b. ICICI Prudential Pension Management
c. Kotak Mahindra Pension Fund
d. SBI Pension Fund
e. LIC Pension Fund
f. UTI Retirement Solutions
g. Birla Sunlife Pension Management

You can opt for investing with any of the above fund managers.

Once you have made a decision on the fund manager, the next step would be to select the allocation in the fund.

More on this below ⬇️

Investment Option

There are four asset classes available for investment.

They are as follows:

E – Equity
C – Corporate Debt
G – Government Securities
A – Alternative Investment Funds

You can invest in the above asset classes subject to the following conditions –

1️⃣ Maximum allowed equity allocation shall be 75% up to the age of 50. Thereafter, the equity allocation reduces each year by 2.5% till it reaches 50% at the age of 60.

2️⃣ A subscriber cannot allocate more than 5% to alternative investments.

After you have selected the fund manager, you will be required to select your asset allocation. You can actively manage the asset allocation yourself or just select the auto option.

If you select the auto option, you have an option to select the risk profile between :”Aggressive”, “Moderate” and “Conservative”.

If you select the active option, you can allocate as per your needs subject to the conditions above.

What Are The Other Important Regulations One Must Be Aware Of?

1️⃣ The investments mature when the investor turns 60. As of today, the regulations allow for only 60% of the corpus to be withdrawn at maturity.

2️⃣ 60 is the retirement age as per the NPS regulations. However you can opt for continuation and contribution till the age of 70 as well. This limit is supposed to get extended to 75 in the next review.

3️⃣ Voluntary retirement (i.e. retirement before the age of 60) shall be considered as pre-mature exit. 100% of the accumulated corpus can be withdrawn however 80% of the proceeds should be mandatorily used for buying an annuity.

#Tax Benefit

Three section cover the tax deductions available for contributions in National Pension Scheme:

▶️ Section 80CCD(1)

All contributions up to INR 150,000 are allowed for tax deduction under this section. However, we would prefer you to focus on utilising the benefits under this section for insurance, EPF and PPF payments.

Under this section, tax exemption is allowed for contributions up to 10% the basic plus dearness allowance or 10% of gross total income, whichever is less for salaried folks in the private sector. This limit is 14% in case of government employees.

Lastly, up to 20% of gross total income is allowed as a deduction for the self-employed folks.

▶️ Section 80CCD (1B)

Additional deduction of INR 50,000 over and above Section 80CCD(1). This is the section we are most concerned about.

▶️ Section 80CCD (2)

This section is primarily for employer contributions. The same limits of 10% of basic plus dearness allowance for private sector employees & 14% for government employees is allowed as a deduction under this section.

How Do The Returns Look Like? (Source: npstrust.org.in)

We believe one must not even look at investing in the alternative investments category.

Most of the portfolios consist of perpetual bonds that are risky.

Further, these funds have not provided returns equivalent to equity while carrying risks higher than that of equity.

The returns from Corporate and Government bond #funds may not be similar in the future.

The past returns are largely backed by falling #interest rates.

What do we like about the NPS?

1️⃣ #Expense ratios – They are extremely low at 0.01%. You would not even get an index fund at this cost.

2️⃣ You can stay invested till you are 70. You can do that with mutual funds too but you get a tax deduction for the years you invest in NPS under section 80 CCD (2)

3️⃣ Your returns on day 1 are 42.8%. Even though you invest INR 50,000, technically you are investing INR 35,000 only because of the tax you just saved. So your returns on day 1 are 42.8% (15,000/35,000).

What we do not like about the NPS?

1️⃣ Equity allocation does not invest in index funds. Stock selection is left on the fund manager. However, we reviewed the portfolios across fund and noted that most were mirroring nifty.

2️⃣ The expense ratio of the fund is way too low. There is no incentive for the fund manager.

3️⃣ Rules regarding buying annuity are still the same.

💡Final Thoughts

If your net worth is in a few crores and INR 50,000 is peanuts, is it worth bothering is something you need to think about.
Other than that, for someone young enough and a long runway to retirement, we think it’s worth a shot.