National Pension System: A Guide for Indian Investors (2025 Edition)

Executive Summary

The National Pension System (NPS) is India’s low-cost, market-linked retirement framework regulated by the Pension Fund Regulatory and Development Authority (PFRDA). It combines equity and debt exposure with lifecycle rebalancing, transparent charges, and tax incentives. This chapter presents an end‑to‑end practitioner’s view—eligibility, account structure, investment choices, costs, taxation, contribution planning, exit rules (including SLW), employer 80CCD(2), and governance—along with worked examples and implementation checklists.

• Open to residents and NRIs aged 18–70; portable via a Permanent Retirement Account Number (PRAN).
• Two accounts: Tier I (primary pension with tax benefits and exit rules) and Tier II (voluntary, flexible savings).
• Choice of Auto (Lifecycle LC75/LC50/LC25) or Active allocation across E/C/G/A asset classes.
• Ultra‑low fees; tax incentives under Sections 80CCD(1), 80CCD(1B) and 80CCD(2).
• At superannuation, up to 60% corpus can be withdrawn tax‑free; ≥40% must purchase annuity (pension taxable at slab).
• Small‑corpus relaxations: normal exit ≤ ₹5 lakh and premature exit ≤ ₹2.5 lakh may be taken 100% as lump sum.
• Operational plumbing includes CRA, POPs, PFMs, and Annuity Service Providers; formal grievance redressal exists.

1. NPS at a Glance

The NPS is a defined‑contribution, individual account–based system under the PFRDA Act, 2013. Participants contribute to a personal pension account (PRAN). Investments are managed by empanelled Pension Fund Managers (PFMs), recorded by the Central Recordkeeping Agency (CRA), and units are allotted based on the chosen scheme. At exit, a part of the corpus is commuted as lump sum and the balance is used to purchase an annuity from an Annuity Service Provider (ASP).

2. Eligibility and Account Structure

• Eligibility: Indian citizens (resident or NRI) aged 18–70.
• Portability: PRAN is permanent, portable across employers and locations.
• Tier I (Pension): Mandatory for tax‑advantaged retirement saving; specific exit/withdrawal rules apply.
• Tier II (Savings): Optional, flexible, separate nomination; typically no tax incentives (except certain government rules).
• Onboarding: eNPS (online) using Aadhaar/PAN/Banks, or offline through Points of Presence (POP‑SPs).

3. Investment Architecture: Asset Classes and Choice Modes

NPS offers four asset classes and two selection modes, enabling lifecycle‑aligned or custom portfolios.

3.1 Auto Choice (Lifecycle Funds)

Auto Choice automatically rebalances equity down and bonds up with age. Three glide paths are available:

• LC75 – Aggressive (higher equity up to age ~35; tapered thereafter)
• LC50 – Moderate
• LC25 – Conservative

The lifecycle matrices define age‑wise E/C/G weights. Younger investors accumulate growth through higher equity allocation; as retirement approaches, the scheme shifts progressively to debt for capital preservation.

3.2 Active Choice

In Active Choice, investors set their own weights to E/C/G/A within regulatory caps. Equity (E) has a maximum allocation of 75% up to age 50, which tapers with age; Alternatives (A) are capped at 5%. The sum of E+C+G+A must equal 100%. Investors may change the allocation and the Pension Fund Manager subject to prescribed frequency limits.

4. Pension Fund Managers (PFMs)

Participants select one PFM at a time for Tier I (and optionally Tier II). PFMs such as SBI, HDFC, UTI, LIC, ICICI Prudential, Kotak, Aditya Birla, etc., manage the chosen scheme(s). Subject to rules, one may switch PFMs and reallocate across E/C/G/A without tax incidence inside NPS.

5. Costs and Charges

NPS is designed to be low‑cost. Broad charge heads typically include:

• CRA charges: account opening, annual maintenance, and per‑transaction processing (usually recovered via unit cancellation).
• POP charges: registration and transaction facilitation (capped by schedule).
• PFM investment management fee: very low (basis‑points level), embedded in NAV.
• Custodian fee: for asset servicing, embedded in NAV.

Because costs materially affect long‑term outcomes, NPS’s structural cost advantage is a key differentiator among retirement solutions in India.

6. Taxation: Contributions, Accumulation and Exit

6.1 Contribution Stage

• Section 80CCD(1) (within 80C): Employee/self‑contribution eligible up to ₹1.5 lakh (salaried: 10% of Basic+DA; self‑employed: 20% of gross income).
• Section 80CCD(1B): Additional ₹50,000 over and above 80C.
• Section 80CCD(2): Employer’s contribution up to 10% of salary (Basic+DA) for private sector and 14% for Central Government employees—over and above the limits under 80C/1B; subject to the combined employer‑contribution cap across EPF, NPS and approved superannuation (₹7.5 lakh per FY), beyond which excess is taxable as perquisite, with annual accretion thereon also taxable.

6.2 Accumulation Stage

Income accrues within the NPS structure without annual taxation to the subscriber.

6.3 Exit/Withdrawal Stage (Tier I)

• Normal Exit at 60 (extendable by option): Up to 60% of corpus can be withdrawn tax‑free; at least 40% must purchase an annuity. Annuity income is taxable at slab in the year of receipt.
• Small‑Corpus Rule (Normal): If total corpus ≤ ₹5 lakh, 100% may be withdrawn as lump sum (no mandatory annuity).
• Premature Exit (<60): Up to 20% lump sum; at least 80% must purchase annuity. If corpus ≤ ₹2.5 lakh, 100% withdrawal is permitted.
• Partial Withdrawals (continuing account): Up to 25% of self‑contributions, after 3 years of subscription, for specified purposes; maximum three times; exempt under Section 10(12B).

Systematic Lumpsum Withdrawal (SLW) permits phasing out the permissible lump sum over multiple years; amounts drawn under the 60% bucket remain exempt, while the annuity pension remains taxable.

7. Contribution Planning and SIP Design

A disciplined SIP aligned to fiscal limits typically maximizes tax efficiency while smoothing market risk.

1.Map salary structure: compute Basic+DA and check employer NPS policy (80CCD(2)).

2. Lock in annual target: first use 80CCD(1) within 80C, then add ₹50,000 under 80CCD(1B).

3. Automate: set monthly eNPS/POP‑SP instructions; align with payroll where employer NPS is available.

4. Revisit each April: refresh targets with increments/bonuses and review PFM performance/asset allocation.

Investors close to retirement may prefer transitioning toward LC50/LC25 (Auto) or increasing G in Active Choice to reduce sequence‑of‑returns risk.

8. Withdrawal Mechanics and Design

The objective at superannuation is to optimize the mix of tax‑free lump sum (commutation), sustainable annuity income, and liquidity via SLW. Three typical patterns are:

• Front‑loaded lump sum for liabilities, with modest annuity for essential expenses.
• Balanced SLW over 5–10 years while purchasing a joint‑life annuity with return of purchase price for longevity protection.
• Small‑corpus encashment when eligible (≤ ₹5 lakh normal exit), eliminating mandatory annuitization.

On death, the accumulated pension wealth is generally payable to the nominee/legal heir; separate provisions may apply for government employees under relevant OMs.

9. Annuity Options with ASPs

Common annuity variants include: lifetime annuity; joint life (spouse) annuity; with or without return of purchase price; increasing annuity; and with guaranteed period. Choice affects the income level and bequest value. Annuity income is taxable at slab. Compare quotes across ASPs at exit and consider diversification of retirement income sources (e.g., SWP from mutual funds alongside NPS annuity).

10. Governance, Servicing and Grievance Redressal

• Central Recordkeeping Agency (CRA) maintains subscriber records and transaction processing.
• Points of Presence (POPs) facilitate onboarding and service transactions; online eNPS is widely available.
• Grievances can be lodged via CRA call‑centre/web, POP‑SP, or escalated to PFRDA if unresolved within stipulated timeframes.

Subscribers should maintain updated contact details, nominations, and leverage annual statements for reconciliation.

11. Special Populations: NRIs and Government Employees

• NRIs may participate per FEMA rules; contributions and withdrawals should route via designated NRE/NRO accounts as applicable.
• Central Government employees are eligible for enhanced employer contribution (currently 14%), Tier II benefits under specified conditions, and other service‑linked provisions (gratuity, death/invalidity benefits) as per DoPPW/DoE OMs.

12. Worked Examples

Example 1: Normal Exit at 60

Corpus ₹50,00,000; annuity rate 7% p.a.: withdraw ₹30,00,000 (60%) tax‑free; purchase annuity ₹20,00,000 (40%) → estimated pension ≈ ₹1,40,000 per year (₹11,667/month), taxable at slab.

Example 2: Premature Exit

Exit at 45 with corpus ₹12,00,000: withdraw ₹2,40,000 (20%); annuitize ₹9,60,000 (80%). Small‑corpus relaxation applies if total ≤ ₹2.5 lakh.

Example 3: Partial Withdrawals

Self‑contribution till date ₹6,00,000 → eligible up to 25% = ₹1,50,000 (tax‑free) for specified purposes; up to three such withdrawals in the NPS lifetime.

Example 4: Employer 80CCD(2) Impact

Basic+DA ₹6,00,000; employer 10% → ₹60,000 contribution over and above 80C/1B. At a 30% slab, approximate tax saved = ₹18,000, subject to the aggregate employer‑contribution cap (₹7.5 lakh per FY) across PF/NPS/superannuation.

13. Risk, Suitability and Best Practices

• Market volatility (E/C) and interest‑rate risk (G) can affect interim values; adopt a long horizon and diversify.
• Annuity‑rate risk at exit: compare ASP quotes and consider partial SLW to avoid locking all capital at an unfavourable rate.
• Longevity risk: a joint‑life annuity or staggered income sources can improve sustainability.
• Operational hygiene: track contributions, update nominations, download annual statements, and keep KYC current.
• Review allocations annually; Auto Choice (LC50) is a pragmatic default for most first‑time investors.

14. Implementation Checklist

1.Open Tier I via eNPS; obtain PRAN; consider Tier II only for flexible short‑term needs.

2. Choose Auto (LC50) if unsure; otherwise set Active weights within caps and pick a PFM.

3. Schedule a monthly SIP; aim to utilize 80CCD(1) within 80C and add ₹50,000 under 80CCD(1B).

4. If salaried, request employer NPS under 80CCD(2) for extra efficiency.

5. Keep records: IPIN/TPIN, bank mandate, nomination, and e‑statements.

6. Plan exit 6–12 months before retirement: evaluate SLW, annuity variant, and spouse coverage.

References and Source Material

This chapter synthesizes official NPS literature and user‑provided documents, including:

• “Investment Options under NPS” (official overview of asset classes, PFMs, and lifecycle choices).
• “NPS Welcome Kit” (charges, processes, servicing and grievance).
• “Important initiatives under NPS” for Government employees (DoPPW/DoE OMs: gratuity, invalidity, 14% contribution, etc.).

Readers should consult the latest PFRDA regulations/circulars and Income‑tax provisions for updates before making decisions.