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How does NPS help you save tax?

If you’re concerned about income after retirement and want to save income tax at the same time, one of the options you could consider is the National Pension System or NPS, a government backed voluntary pension scheme.

Originally launched for government employees in 2004, NPS was opened to the general public in 2009 through select banks. NPS is a two-tier system. In Tier I, there are limits on how much you can withdraw. In Tier II, you can withdraw the entire corpus at any time. However, the tax benefits are available only for Tier I of the scheme.

Any Indian citizen between the ages of 18 and 60 can open an NPS account.

Tax benefits of NPS

As we mentioned above, tax benefits are only for Tier I of NPS. The biggest advantage is that investments here are deducted from taxable income up to a limit of Rs. 1.5 lakh under Section 80C of the Income Tax Act. Furthermore, you get an additional deduction of Rs. 50,000 under Section 80CCD(1B). So in all, you will able to reduce Rs. 2 lakh from your taxable income, leading to considerable savings in income tax.

On reaching the age of 60, you can withdraw 60% of the accumulated corpus, and the rest has to be invested in a specified annuity (pension).

How does NPS work?

Under the NPS, your savings are pooled in a pension fund run by professional fund managers according to guidelines set by the Pension Fund Regulatory and Development Authority (PFRDA). Investment is made in a diversified portfolio, comprising government bonds, bills, corporate debentures and shares. When you exit the NPS at 60, you can purchase a life annuity from a PFRDA empanelled insurance company with the proceeds. You can also withdraw 60% of the corpus and buy annuity with the rest.

Investors must keep in mind that it is a pension-specific instrument which involves locking your funds up till your retirement.

Advantages of NPS

If you want a decent corpus when you retire without too much risk, NPS is worth considering. The scheme offers subscribers two investment modes. One is the Active choice, where you can pick and choose your own asset mix of equity, corporate bonds and government bonds. The other is Auto, where investments are made in a life-cycle fund, where the asset mix reduces the equity and corporate debt portions as you age to reduce risk and volatility. Investors have three options in Auto – Aggressive, Moderate and Conservative.

NPS, therefore, should be seen as an option for both immediate tax benefits as well as a corpus for retirement. Some people may find the long lock-in and compulsory annuity as deal breakers. Others, however, see it as a blessing in disguise, which forces them to save for retirement.

It is critical to have a plan to generate income after you retire. According to some studies, by 2050, an estimated 20% of India’s population will be above 60, and a whopping 62% of them will not have income security. So, start investing as early as possible to gain from the power of compounding and ensure that you are not among those without an income after retirement.

To invest in NPS, mutual funds and other products, click here to open an ICICIdirect trading account.


Disclaimer: ICICI Securities Ltd. (I-Sec). Registered office of I-Sec is at ICICI Securities Ltd. - ICICI Centre, H. T. Parekh Marg, Churchgate, Mumbai - 400020, India, Tel No: 022 - 2288 2460, 022 - 2288 2470. I-Sec is registered with PFRDA vide regn no. POP no -05092018 to offer NPS services. The contents herein above shall not be considered as an invitation or persuasion to trade or invest.  I-Sec and affiliates accept no liabilities for any loss or damage of any kind arising out of any actions taken in reliance thereon.

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