by - BAKUL CHUGAN
With India gearing up for its own government-regulated pension plan, in line of the 401Kretirement plan in the US, investors need to know the intricacies of the same.
NEW Pension Schemes (NPS) are in news for quite some time now. With India finally gearing up to have its own government-regulated pension plan, on the lines of the ‘401K-retirement plan’ in the US, the excitement hovering around NPS is obvious. While the scheme is already operational for central govt employees, its opening for general public on May 1, 2009. Unlike the traditional retirement solutions, such as PPF and EPF; NPS is not a defined benefit, but rather a defined contribution plan. Thus, while investment in PPF and EPF attract a fixed rate of interest, returns from NPS will be market determined. The market here, however, is not confined to equity alone, but includes corporate bonds and government securities. Investment in these papers is to be actively managed by fund managers. Pension Fund Regulatory and Development Authority (PFRDA) has designated six asset management companies (AMCs) for the purpose. So, does it imply that NPS is just another mutual fund scheme? Though the NPS will be managed by fund houses, the autonomy lies with the PFRDA. While AMCs take investment decisions for NPS, their operational freedom shall be confined to the guidelines issued by PFRDA from time to time. Again, while an MF investor can enter and exit an scheme at free will, NPS will bind them till the retirement age of 58 years. The current guidelines do not permit a pre-mature withdrawal or any loan against the investment in NPS. The onus of deciding the structure of investments and selecting the fund house has, however, been left to the investor. The investor is free to choose the right mix of equity (E), corporate bonds (C) and government securities (G) in his/her portfolio. Alternatively, investor can choose auto option, wherein his investment in NPS will divided in pre-determined proportion of 15% (E), 45% (C) and 40% (G). In the case of automatic allocation, the entire investment will be equally distributed among all six fund managers in the first year. From second year onwards, however, the allocation will be pro-rated on the basis of the first year’s performance. NPS can also be distinguished from an MF scheme in terms of its cost structure. While an MF scheme charges an entry-load of about 2.25% and an average management charge of 1.5%, NPS carries a bare minimum fee of 0.0009%. Virtually free; as one might put it! But hold on. For, while NPS may prima facie appear an art of charity, investors would do well to note that there is never a free lunch. NPS requires maintenance of all records and the same will be done by NSDL, which will act as the central record keeping agency (CAR). Each investor will thus be required to pay NSDL an account opening charge of Rs 50. Besides, there will be a maintenance charge of Rs 350 per year and an additional charge of Rs 10 per transaction. PFRDA has also appointed selected banks as point of presence (POPs) to facilitate quick and hassle-free transactions. However, these services are not free either. According to an industry source, POPs will also charge an investor an account opening fee of Rs 20 and an additional charge of Rs 20 per transaction. This implies that an investor seeking to invest Rs 500 per month will actually end up paying around Rs 560 per month. That’s nearly 11% transaction cost, considerably higher than 8% return offered by PPF. So does this render NPS more costly visà-vis an MF scheme? The current cost structure of NPS is as good as fixed in nature, while that of an MF is a percentage of investment. Thus, the higher the investment, the higher would be the charges in case of an MF scheme. Given the current cost structure, NPS appears to be more beneficial to those with a higher amount of periodic investment. Another factor that needs major consideration is the tax treatment. NPS does not enjoy any tax benefits, either at the investment stage or at the time of maturity. This makes it less attractive vis-à-vis other retirement plans available in the market. While PFRDA is understood to have approached the government to grant NPS the tax status of (exempt-exempt-exempt) EEE, the fact that PFRDA bill is yet to be approved by Parliament may procrastinate the process. Thus, while the step in the right direction has been taken, a lot needs to be done to make NPS as competitive as 401K.