While we are yet to fully understand the low-cost, investor-friendly pension scheme under the New Pension System (NPS), the regulator, Pension Fund Regulatory and Development Authority (PFRDA) added an optional Tier II facility on 1 December. Look at Tier II as a mutual fund with very low costs and investor-friendly features. It is a liquid version of the Tier I account (pension account) that locks up your money till you are 60. The Tier II account works more like a savings account where you can withdraw your money whenever you wish.
More about Tier II
You can make your contributions using your permanent retirement account number (PRAN) at any of the designated points of presence. Some of the popular ones are State Bank of India, Central Bank of India, ICICI Bank Ltd, Axis Bank Ltd, Citibank, Union Bank of India and IDBI Bank Ltd.
Also See New Pension System (NPS) (Graphics)
You have a choice of three fund options. Equity (E), this is an equity index fund that replicates the portfolio of either BSE Sensitive index or NSE Nifty 50 index. You can only put half your money into this fund. The other two are fixed-income instruments other than government securities (C); and government securities (G). You can choose the fund on your own, or it will go to the “Auto Choice” module, which invests in options that suit your age profile. The fund managers you can choose from are ICICI Prudential Pension Fund Management Co. Ltd, IDFC Pension Fund Management Co. Ltd, Kotak Mahindra Pension Fund Ltd, Reliance Capital Pension Fund Ltd, SBI Pension Funds Pvt. Ltd and UTI Retirement Solutions Ltd.
A crucial difference between the two accounts is the tax treatment. Says Rani S. Nair, executive director, PFRDA: “Since Tier II does not have any lock-in period, it does not qualify for a tax deduction under section 80C.” However, right now, the pension regulator is divided on the tax treatment of the amount withdrawn. Says Nair: “We are yet to hear from the tax department on the tax implications.” Going by the product structure, withdrawals will attract capital gains tax. Withdrawals before one year will attract short-term capital gains that is taxed at the marginal rate (the highest tax rate on your income slab). For withdrawals after one year, you will have to pay long-term capital gains—10% for debt funds and nil for equity funds.
Do you need it?
If you do not have an EPFO account, Money Matters recommends that you put your long-term retirement money (other than the Public Provident Fund) into the NPS.
However, the advice is more layered for the Tier II account. Investing in it would largely depend on your risk appetite. For a young investor with a minimum three decades to go for retirement, the Tier II account may not be the answer. Investing 100% in equities would be preferable. Says Kartik Varma, co-founder, iTrust, a financial advisory firm: “One can easily replicate the benefits of the Tier II account by investing in an index fund. If you are young, you can direct a larger portion of your investments into equities.” However, for a medium-term investment horizon of three-five years, the cost effectiveness of this account may work out better than an MF, or even an fixed deposit.
Although Tier II beats all other funds hands down, the fact that only 50% can be invested in an equity fund dilutes this cost-based edge over others. This account can’t be seen as a retirement vehicle but what it stands for: savings. For a slightly aggressive investor, it can be comfortably given a miss. Equity mutual funds or index funds can be opted for.
Says Suresh Sadagopan, Mumbai-based financial planner: “It is similar to a monthly income plan and is meant for those looking at some sort of income. For long-term investors, mutual funds or index funds are advisable.”
Graphics by Yogesh Kumar / Mint