New Pension Scheme NPS – good or bad ?

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After this year (applicable for FY 2015-2016) budget, we get several queries asking our recommendation for NPS. And some employees are asking our opinion on whether they should contribute to EPF or NPS.

From asset allocation perspective for any long term goals like retirement we have always recommended high equity allocation in the portfolio. In long term, inflation is the risk, price volatility is not. From this perspective, definitely NPS score over EPF. NPS allows employees to invest up to 50% in equity market while EPF is a pure fixed income product.

Both of them offer 80C tax deduction benefit.

In spite of all these good reasons, we have reservations about NPS. NPS is still not designed properly. We think it is still work in progress.

1) While EPF allows full tax free withdrawal on retirement, NPS doesn’t allow tax free withdrawal. Withdrawal from NPS will be considered as income and taxed at marginal rates. This is a major setback or a Tax Trap. By contributing to NPS, you are only POSTPONING your income tax not AVOIDING it !

2) After retirement, an investor may withdraw his savings from EPF and he is free to buy annuity, invest in mutual funds, buy a bank fixed deposit or buy all of them with what ever the amount he likes. But with NPS 40% of the accumulated corpus compulsorily should be used to buy an annuity which will provide monthly pension. This is a bummer. No body knows what will be the annuity rates that will be available at the time of retirement in future. An investor should have a choice to say No, if the annuity rates are not favorable to him. He should have choice to invest money in any scheme of his choice, if he doesn’t like the annuity rates offered. Also once you buy the annuity, you can’t withdraw money from it or close it until your death. It is one way road.

With indexation benefit available for debt funds and 0% capital gain taxation available for equity funds, an investor can keep the money in a combination of these funds for retirement withdrawal. Enjoy less tax and any time liquidity. Why would any one need NPS ?

Unless Indian government changes the current design and tax structure of NPS, pick EPF over NPS.

 

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