Making the most of NPS Post Retirement

The recent makeover of NPS has brought focus back on a powerful yet often ignored Retirement Vehicle. All along NPS is viewed as a vehicle of forced choice, an under appreciated do good platform. Its such because it gets its power from Tax saving inducements like 80CCD(1B), 80C and 10% Employer Contributions, 80CCD(2). You take away the tax breaks and the halo disappears.

With the tax free income under New Tax Regime topping ₹12 lac, and only Employer Contribution incentives for NPS investments the appeal of NPS is likely to dwindle especially amongst gig workers and professionals. To address these and to make NPS investing more appealing, PFRDA has rolled out a few changes. To know more, refer to this post

Here we tackle something different. Those who are NPS subscribers and hitting the magic age of 60 may find it useful. We know that upon attaining the age of 60, PFRDA allows up to 60% of the corpus withdrawal tax free, while forcing an annuity on the balance 40% of the corpus. Questions we tackle are

• While the retiree is allowed to withdraw 60% of the corpus tax free, should he do it?

• Are there any benefits to not withdrawing the corpus lumpsum?

• For Annuity, what are the most common options and which one works best for you?

60% Tax Free Withdrawals:

If you do not have an immediate need for cash, it's perhaps best to leave the 60% untouched or use Systematic Lumpsum Withdrawal (SLW) a form of SWP. NPS allows you to stay on till age of 75. If you do decide to stay on with NPS, you could consider these 3 options.

Systematic Lumpsum Withdrawal(SLW): Start a SLW for 15 years. SLW will add to your regular annuity income. As the withdrawals are flexible, you could adjust your withdrawals to inflation every year. That will help you maintain your lifestyle in retirement. The biggest problem with Annuity is that it starts at 6%-9% of the corpus annually but stays the same for the rest of your retirement. Annuity of ₹10,000 per month reduces to ₹1,500 in Real Buying Power as you hit 90. SLW can help mitigate this by allowing you to index your withdrawals to inflation.

Tax Free Withdrawals for SLW: Why stay within NPS when you have a wide variety of Mutual Funds available? That's because SLW allows for Tax Free Withdrawals. Compared to regular Mutual Fund investing where you pay LTCG on your equity MF and marginal tax rate on your bonds income, SLW is completely tax free. If you stayed invested in NPS, you'd make ~1% additional returns compared to investing in similar Equity MF outside of SLW due to tax savings. In case of Bonds, it could be as high as 4%. You need ~13% pre tax to match ~9% post tax for Bonds

Corpus Composition for SLW: Let's also cover what should be the composition of your NPS at 60 if you decide on SLW. During the investing years, you were best served by maximising your investment in the Equity "E" class of NPS. Most "E" schemes have given around 12% CAGR over the last 15 years. However, if you are planning to now drawdown the entire amount you'd be best served by switching to "C" class for 80%-90% of the investments, leaving just 10-20% in "E". Why "C" and why not "G" you are right to ask. That's because despite "C" carrying small Credit Risk, it gives almost 1% more than Government Bonds "G". In the long term Interest Rate Risks turn out more material than "C", especially for NPS "C" Corporate Debt. This will give you a predictable SLW with low volatility and maximise your SLW. SLW could allow you 8%+ Inflation Adjusted Withdrawal Rates over the next 15 years to complement your Annuity Income.

New Multiple Scheme Framework(MSF): With the newly launched MSF you may choose to leave the entire money invested for 15 years in any of the new MSF earning as high returns as any of the regular MF, without the burden on LTCG. In fact if you have other regular investments to support you, it's best to leave the 60% in the NPS under MSF for the next 15 years to compound. Apart from tax-free compounding it will probably have lower Total Expense Ratio (TER) than even the Direct MF option.

The Annuity Game:

Annuities are a strange phenomenon. They give you a sense of security while eroding with time due to inflation. While there are many available choices, I'll compare only 2 Annuity Options . 1. Joint Life with Return of Purchase Price (ROP) vs Joint Life without ROP.

Joint Life with ROP gives you and your partner lifetime assured annuity while also allowing you to leave behind a legacy for the next gen. Great thing is that ROP is Tax Free in the hands of your nominee. But remember, this is no free lunch. You compromise on Annuity amount. Currently the Annuity for this option is around ~6.5%* starting age 60.

Joint Life without ROP leaves more money in your hands ~7.7%* a good ~20% more in your hands every month. The downside is, there is no legacy. The annuity stops once both you and your spouse are no more.

Choosing one over the other is a personal choice. But here is a thought. Take the Joint life without ROP and get the additional money in your hands. Instead of gifting your next gen some money when you are gone, use the additional annuity to make a difference in their lives while you are still around.

Even from an investing standpoint, if you just started an SIP for your grand kids with the additional annuity, these SIP will be worth many times more than the ROP amount if either one of you lives for the next 30 years. Just an aside, if you wish to know how long are you and your spouse are likely to live in retirement, you must check out this longevity calculator.

If case you wish to Back Test SLW Using various "E", "C" and "G" combinations, visit SWP Calculator

While we have discussed the current and some new NPS changes, there are more in the pipeline. Namely for Non govt subscribers the Tax Free Withdrawals are proposed to be increased from current 60% to 80%. That would be a real game changer. Secondly, the 15 year limit on SLW is likely to be extended to 85 years. Additionally there are multiple withdrawal options in the mix to address inflation indexation.

We will revisit this topic once these are finalised. But for now, do weigh these if you are close to 60 and need to decide on your NPS future.

*The Annuity Rates are derived from HDFC