The National Pension System (NPS) and Employees' Provident Fund (EPF) are two popular retirement savings options in India. Different in their operational methods, NPS invests in market-linked assets, while EPF is a government backed guaranteed returns product. While NPS is voluntary in nature, EPF is primarily designed for salaried employees.
How NPS Works?
NPS is regulated by the Pension Fund Regulatory and Development Authority (PFRDA). NPS allows greater investment flexibility, operating through two accounts.
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- Tier-I Account (Primary Retirement Account Within NPS) Purpose: Built strictly for long-term retirement savings.
- Tier-II Account (Optional Savings Account) Purpose: Acts as a voluntary, liquid investment account.
When you contribute to NPS, your money is pooled and managed by professional fund managers. You also have flexibility to choose how funds will be allocated such as in equities, bonds, debt instruments, etc, giving your fund the potential to earn around 10% or even more returns.
Depending on your corpus size, private sector employees can withdraw up to 80% as a lump sum. Of your total corpus, 60% can be withdrawn as lump sum tax free. The remaining money must be used to purchase an annuity, which provides a regular income during retirement.
Example 1: If your corpus is Rs 8 lakh or less, you can take everything as a lump sum with no annuity purchase requirement. Of this, 60% is tax-free, while the remaining is taxable at slab rate.
Example 2: If your corpus size is over Rs 12 lakh, you can withdraw up to 80% as lump sum. Of the total corpus, 60% is tax-free. The remaining amount goes into annuity. This rule is applicable for private employees, while government employees need to use 40% for annuity purchase. The pension from annuity is also taxable at slab rate.
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How EPF Works:
Meant for salaried employees, EPF corpus is generally tax-free after 5 years of continuous service. At retirement (typically age 58), you can withdraw your entire corpus, including both your employee and employer contributions. Currently, EPF offers 8.25% returns and is reviewed periodically by the government.
However, there are conditions when the EPF interest becomes taxable:
- Rs 2.5 lakh limit: Since FY 2021–22, interest earned on an employee's own EPF contributions exceeding Rs 2.5 lakh in a financial year is taxable. This is applicable where the employer also contributes.
- Rs 5 lakh limit: The threshold increases to Rs 5 lakh if there is no employer contribution to the fund.
To be clear, you pay the tax on excess interest in every financial year based on when the contribution was made. It is added to your income and taxed at your slab rate. If you have completed 5 years of continuous service, the entire corpus withdrawal itself is tax-free.
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