How National Pension System (NPS) Works: Key Things To Know

NPS or National Pension System is a government-sponsored retirement planning instrument regulated by the Pension Fund Regulatory and Development Authority (PFRDA). NPS gives the investor the option to set his or her preferred allocation to different asset classes, such as government bonds, equity market instruments and corporate debt, among other features. NPS also gives the investor flexibility in terms of timing of contribution, choice of pension fund, and choice of allocation, according to National Securities Depository's (NSDL) website - npscra.nsdl.co.in. But how does investment in National Pension System (NPS) work?

Here are few important things you need to know about your NPS (National Pension System) investment:

How to open NPS account

An NPS account can be opened by a citizen of 18-65 years of age in two modes: online and offline. The subscriber can either apply for an NPS account by visiting a Point of Presence (PoP), or do it online through the e-NPS website enps.nsdl.com/eNPS, according to NSDL. In the online mode, the applicant is required to quote the Aadhaar or PAN (Permanent Account Number) along with bank details, according to NSDL.

(Also read: All you need to know about SBI deposit schemes)

The investor contributes to his or her own retirement account, and so does the employer in favour of the employee. The subscriber contributes to the account without any defined benefit, and the amount of return depends on the overall corpus and income generated from such wealth. 

How NPS works

In National Pension System, the money contributed by the subscriber is invested by pension funds. These pension funds are responsible for managing the pension corpus. Besides investing and accumulating the contributions, they manage the pension corpus through various schemes under the National Pension System.

NPS modes of choice

After selection of pension fund manager, the NPS subscriber is required to give the choice of investment. National Pension System offers two approaches to investment in the account: active and auto. In the active choice, the subscriber selects the allocation (in percentage terms) in asset classes. In the auto choice, the funds are automatically allocated to different asset classes depending on the age of the subscriber. This allocation, in case of auto choice, is carried out in a pre-defined matrix, according to the NSDL website.

Asset classes available for investment under NPS

NPS enables the investor to design his or her portfolio under the active choice mode. In other words, based on one's risk appetite, the investor can decide the amount of allocation for the four asset classes.

These asset classes are

• Equity
• Corporate debt
• Government securities
• Alternative investment funds

(Also read: NPS withdrawal rules explained | Compare NPS with PPF here)

The government allows premature withdrawal - that is before the subscriber attains retirement - from an NPS account after a minimum investment period of three years under certain conditions. 

Types of NPS accounts

NPS offers two kinds of accounts: tier 1 and tier 2. While the tier I NPS account is a pension account, the tier II NPS account is a savings account. This means the subscriber is allowed to withdraw money as and when required from the tier II account, but not the tier 1 account.

Initially available to the government sector and extended to the general public in 2009, NPS is aimed at providing income to individuals in old age.