Friday, August 17, 2012

Should you bet your money on NPS?

The National Pension System (NPS), opened to the common public with much fanfare in April 2009, is yet to take off. But there seems to be a growing buzz in favour of the product of late, with the insurance regulator stressing the need for revitalising the pension space and the pension regulator underlining the many advantages of NPS. But does it really merit a place in your portfolio? We try to help you take an informed decision.

Scheme outline 
This is a pension scheme launched by the government, which allows one to invest as little as Rs. 500 a month or Rs.6,000 a year.
There is no upper limit on investments, though tax benefits are available only to the extent of Rs.1 lakh, allowed under Section 80C.
The scheme allows you to choose from three investment options:
a)      In the first option, up to 50% of the investment is in equity, so it is clearly for those in a position to take risk;
b)      The second option is largely a mix of corporate debt instruments and other fixed income instruments from the government, with a small amount dedicated to equities. Understandably, the risk here is lesser than in the first option;
c)       In the third, the investment is mainly in government securities and the exposure to market linked instruments is very small. This, then, is the safest option of the three.
Anyone in the age bracket of 18-60 years can enter the scheme. Maturity will be at 60 years.

The management expense in NPS is lower than in any comparable product. This could ensure that you have a bigger corpus by the end of the term, though there is no saying just how big or small your returns will be since there is no guarantee.
Also, since it doesn’t allow withdrawals before the age of 60, the plan could well serve the purpose of compulsory saving.

Unlike in tax-saving schemes such as the Public Provident Fund (PPF) or the Employees’ Provident fund (EPF), the money you receive at maturity in the NPS is taxable.
And if experts are to be believed, the post-tax return on these annuities is much less in comparison to what other options such as fixed deposits and Senior Citizens Saving Scheme currently offer.
Also, it does not allow withdrawal of 100% of the amount received at maturity, which is when the policyholder is of the age of 60 years. One has to necessarily use 40% of the amount to buy annuities from insurance companies empanelled with the government.
An annuity assures you of a regular payment — monthly, quarterly, half-yearly or annually, as chosen by you.
In case you need the money before you have turned 60, a withdrawal of only 20% is allowed in lump sum; you have to buy annuities for the rest of the amount.

Expert speak 
“The product has three major problems that take the sheen away from it,” says Manish Chauhan, who runs a personal finance website jagoinvestor.  “First, it offers very little flexibility in terms of product design. Secondly, the maximum investment in equity is limited up to 50%, which may not work in favour of a young investor who should ideally have or who might want greater exposure to equities. The third point is that there is no guarantee on the amount of money you will earn — that’s so paradoxical for a retirement product,” says Chauhan.
The restriction on withdrawals is a sore point, too.
“The fact that there are withdrawal limitations will work well for someone in the low income group. But for any other investor, this doesn’t augur very well,” says Harsh Roongta, CEO, ApnaPaisa.
The preset maturity date at 60 may not stack well either. “For anyone who is entering beyond 55 years of age, this will not work out very well,” says Suresh Sadagopan who runs a Financial Advisory Services.

Should you go for it? 
NPS may not be the best retirement product, suggest experts
Roongta, for one, believes the scheme will become an attractive investment once the Direct Taxes Code kicks in. As per the proposed draft, NPS, provident fund and superannuation schemes will get tax breaks up to Rs. 1 lakh per year. “When this happens, NPS will be the only scheme with an equity component on which tax benefits will be available,” says Roongta. Even so, it would be advisable to cap investments in NPS subject to the limit to which the tax break is available, he adds.

Alternatives to NPS 
Taking a pension plan with the idea of wealth accumulation is not a smart game plan, say experts. A combination of the good old PPF, EPF, mutual funds may work better, they suggest.
Of course, there are withdrawal limits even in the PPF. However, the returns are assured and the maturity amount is tax-free. It’s the same with EPF investments, which are tax-free beyond five years. As for mutual funds, retirement planning is best done through the systematic investment plan, or SIP, route.


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