EPF to NPS: Should you jump ship?

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No, as EPF is the best bet for the safe portion of your retirement kitty

If you’re a salaried employee, how would you like to switch from your staid old EPF (Employees Provident Fund) to the market-linked NPS (National Pension System)? A recent circular from the pension regulator has laid down the procedure to make this switch.

There are still legal hurdles to cross before this option becomes a reality. But if given the choice to jump ship from EPF to NPS, should you do it? Here are the pros and cons to consider.

Return and risk

If your retirement goal is to accumulate maximum wealth, never mind the risks, NPS is more likely to deliver it than EPF. While the EPF is restricted by mandate to stick to safe bonds for the major portion of its portfolio (equities are capped at 15 per cent), NPS allows you to park 50 per cent of your contribution in equities. Over the long term, equities can deliver far better returns than safe bonds.

In the last five years, equity plans on the NPS menu have delivered 13-14 per cent annually, government bond plans 8-10 per cent and corporate debt 11-11.5 per cent. So an investor who opted for 50-25-25 mix between the three assets would have earned 11.25 to 12.4 per cent. The EPFO, in this period, has delivered annual returns of 8.25 to 8.8 per cent.

However, high returns on NPS are a function of market conditions. Three years ago, its returns were less than impressive. The EPFO declares its yearly interest based on the difference between its income and expenses.

Enormous public pressure has so far ensured that it hasn’t trimmed its rates even when market rates dipped. In short, NPS can maximise your long-term return (with risks) through its equity component. But as safe options go, it’s hard to beat the EPFO’s over 8.6 per cent tax-free return.

Flexibility on investing

EPF contributions are voluntary for employees with basic pay of over ₹15,000 a month. But if your employer offers it, you often have little choice in the matter. The EPFO automatically docks 12 per cent of your pay every month and matches it with your employer’s contribution. That’s 24 per cent of your emoluments deducted at source.

It makes sense to switch from EPF to NPS only if your employer is willing to contribute to the latter. Assuming NPS is offered by your employer, its rules allow you to contribute as little as ₹1,000 a year. It is thus, more flexible than EPF. But if you’re short on discipline, this can also leave you with a measly corpus at retirement.

Early exit

As retirement vehicles, neither EPF nor NPS allow anytime exit, and that’s a good thing. But what if you have an emergency, retire early or quit to start your own venture?

Well, in that case, you’ll find the EPF more amenable. The EPFO allows you to apply for early withdrawal before retirement age, if you have been unemployed for 60 days. The EPFO also allows you to take an advance during your service to deal with specific emergency needs with a cap on the amount for each purpose.

The NPS ties your hands by mandating that 80 per cent of your corpus, in case of premature exit, has to be invested in an annuity plan. Partial withdrawals of up to 25 per cent of your contribution are allowed before 60, subject to conditions. To withdraw, you must have completed 10 years and prove specific emergency needs. Even then, withdrawals are capped at three times, with a gap of five years between each.

End-use

While EPF is quite inflexible on your investment, it imposes no conditions on your final retirement proceeds. You can withdraw your accumulated kitty at retirement and do with it as you please.

NPS requires you to compulsorily use 40 per cent of the final proceeds to buy an immediate annuity plan from empanelled insurers. These guarantee a fixed income for the rest of your life, but lock you into measly, taxable returns

Taxation

The EPF is the rare investment vehicle still on an EEE regime - your investment, annual returns and the final withdrawal are all tax-free. But the NPS is on an EET regime. Your annual NPS contributions earn you tax breaks up to ₹2 lakh and returns aren’t taxed each year. But at retirement, just 40 per cent of your accumulated kitty is exempt from tax.

If you withdraw another 20 per cent as lumpsum, it is clubbed with your income and taxed at your prevailing slab. The remaining 40 per cent that you have to deploy in annuities also becomes taxable when you receive the income. Overall, as things stand today, it makes a lot of sense to stick with the EPF and not make the switch. The only aspect on which EPF really loses out to the NPS is on its inability to deliver equity-linked returns. But then, every retirement portfolio must have both a safe debt component and a risky component. With its above-market return and tax-free status, the EPF is the best parking ground for the safe portion of your retirement savings. For the risky portion, you can consider balanced mutual funds, pure equity funds or the NPS, whichever takes your fancy.