I have pension policy of premium Rs 1 lac per year continuing for last 3 years, and I am planning to retire with its help. Should I plan to shift to the NPS?

Manoj Srivastava is 38 years old manager working in a multinational firm. He has thought of his retirement plan well ahead and hence already taken pension policy 3 years back where he invests Rs. 1 lakh annually. His policy period is 25 years i.e. the policy will terminate at an age of 60(38-3+25). Meanwhile, NPS was introduced in May 2009 for the general public in India. Manoj, as a cautious investor, is thinking of switching from his pension plan to NPS. Manoj is also aware that if he withdraws from the current pension plan, he has to pay surrender charges. Should he switch over from his current pension plan to NPS?

Now, the plan which Manoj currently has can be of two types: one which is a conventional pension plans which invest a major portion of the premium monies in bonds and government securities (G-Secs). That is why the returns are on the lower side i.e. around 6%. Other one is the equity linked plan which gives a growth rate of 10%. Now Manoj must have started investing in his pension plan at an age of 35 as he has already invested for 3 years. If we just do a little bit of analysis then we can get to know his value of the pension fund at the age of 60. Here, we have assumed that a charge of 1.291% is levied on each investment also we have assumed that the growth rate is 6%.

So, we find that the value of his pension plan at the age of 60 will be Rs 5740558. But now if he withdraws the money from the pension plan at an age of 38, he will have to pay surrender charges of 20%. So, the value of the fund which is Rs. 333105 at the end of 38 years will amount to Rs. 266484 if he withdraws from the policy. Now, assuming that he invests this money and 1 lakh annually in NPS till his age of 60, his returns will be Rs. 9985798.

Here, we have assumed a growth rate of 10% for the NPS fund and a charge of Rs. 470 plus 0.0084% of the investment. So, if he invests in NPS, he gets a return of Rs. 9985798 which is Rs 4245240 higher than what he would have received in his pension plan!!! The main difference is due to the growth rate difference between the two plans. So, the clear verdict is that Manoj must change over to NPS.

However, if he would have invested in equity linked pension plans where he would get a return of 10%, we find that the value of his pension plan at the age of 60 will be Rs 10678514. But now if he withdraws the money from the pension plan at an age of 38, he will have to pay surrender charges of 20%. So, the value of the fund which is Rs. 359399 at the end of 38 years will amount to Rs. 287520 if he withdraws from the policy. Now, assuming that he invests this money and 1 lakh annually in NPS till his age of 60, his returns will be come out to be Rs. 10157023 which is Rs. 521491 less than what he would have received in his original pension plan. The loss is due to surrender charges which he had to incur since the growth rate of both the funds is same. So, in this case Manoj should not shift to NPS fund.

Apart from this analysis, Manoj should also take into account some of the finer differences while making his decision:

1. NPS has mandatory investment of minimum 40% of its payout in an annuity. Moreover, the investor has to pay a tax on the remaining 60 per cent of the payout, which he/she receives as a lump sum, as per the prevailing income tax slab, though it is anticipated that in coming times this will be rectified. However, the lump sum amount received in other pension scheme at maturity is non-taxable.
2. The entire maturity amount in an annuity which is the interest received would be taxed at 20 per cent with indexation in NPS which is same as other pension schemes.
3. Moreover, NPS Tier-1 has high illiquidity i.e. you can not withdraw money before 60 years of age. Other plans give the opportunity to policy holder to withdraw money after three years but only after payment of certain surrender charges. However, the Tier-2 account of NPS is a voluntary savings account from which the investor can withdraw money, any time and any number of times.

So, Manoj will have the flexibility of investing a part of Rs. 100000 in Tier 2 as well.