What Is NPS? How Does It Work?

The Indian government sponsored the National Pension Scheme or NPS in January 2004 as a means to secure your financial future after retirement. However, it offers benefits beyond creating a regular income source post-retirement. Read on to find out.

How does NPS work?

NPS is a pension scheme for self-employed individuals and employees of the private sector, the unorganised sector, and the public sector besides the Armed Forces. In this scheme, an investor (you) can make a yearly contribution starting at Rs. 1000, either in monthly instalments or as one lump sum payment. Your employer will also contribute an equal amount. The contribution you make will be invested in various funds such as index-based stocks, government bonds, or corporate bonds by your chosen fund manager. Depending on these investments’ performance, you can get long-term returns varying between 9% - 12%.

The contribution you make to the NPS account is locked until your retirement. However, you can make partial withdrawals of up to 25% of the contribution for specific reasons such as chronic illness, purchasing a house, or sponsoring a child’s education. These withdrawals are allowed after three years of opening the account.

The National Pension Scheme has broad eligibility. Any Indian citizen between the age of 18 and 60 can apply for the scheme. They need to be KYC compliant and not have a pre-existing NPS account. NRIs can also apply for NPS.

Benefits of NPS

Given below are the benefits of investing in the National Pension Scheme:

Tax exemption

Under Section 80C of the Income Tax Act, an NPS contribution of up to Rs. 1.5 lakhs is eligible for tax exemption. Moreover, you can claim additional tax benefit under section 80CCD, depending on whether you are a salaried employee or self-employed.

Additional Read: 5 Tips to grow your wealth while saving taxes

Flexibility in investments

NPS offers two options of investments: an active choice or an auto choice. In active choice, you can choose whether to invest in equity, debt or a combination of the two. In auto choice, an investment portfolio is created by assessing your age and risk profile. Initially, a higher equity cap is set, between 50% to 75%. After the age of 35, as your age increases, the auto choice feature will reduce the investment in equity portion by 2.5% per year to reduce the risk.

Also, the scheme offers various pension schemes and a portfolio of fund managers. You can choose and change either or both at any given point.

Who should invest in NPS?

The National Pension Scheme is an excellent way to secure your future and ensure an assured income source in your retirement days. It is flexible, provides high returns, and offers tax benefits to investors.

It is an excellent scheme for anyone with a low risk appetite looking to plan for their retirement. Especially if you have a private sector job, you will benefit from a regular income post retirement. The earlier you start planning, the better it is. What’s more, salaried individuals who want to benefit from 80C deductions can also start saving under this scheme.

Additional Read: Secure your Retirement with Wealth Management Planning

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