The National Pension Scheme is a retirement benefits plan that combines tax savings and pension payments. The National Pension System offers the following two types of accounts, Tier 1 and Tier 2. NPS Tier 1 accounts are the most fundamental type of NPS accounts. Moreover, a Permanent Retirement Account Number (PRAN) is assigned to each NPS Tier 1 account. On the other hand, an NPS Tier 2 account is an optional account. Also, only subscribers of Tier 1 accounts are eligible to open a Tier 2 account. This article highlights the key differences between NPS Tier 1 Vs Tier 2 accounts.
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NPS Tier 1 Vs Tier 2 – What is the Difference?
Following are the key difference between NPS Tier 1 and Tier 2 accounts:
|Basis of Difference||NPS Tier 1||NPS Tier 2|
|Eligibility||Any Indian citizen between the ages of 18 and 65 years may open a Tier 1 account. You will be assigned a Permanent Retirement Account Number (PRAN).||To open an NPS Tier 2 account, you must be a Tier 1 member.|
|Lock-in period||NPS Tier 1 has a lock-in period till the subscriber is 60 years old.||Tier 2 accounts have no lock-in period. Thus you can withdraw funds at any time.|
|Minimum number of contributions per year||1||None, you can choose not to make any investment in a year|
|Account opening contribution||INR 500||INR 1,000|
|Minimum subsequent contribution||INR 1,000||INR 250|
|Tax Benefits on the contribution||NPS Tier 1 account investments up to INR 1,50,000 per financial year qualify for tax deduction under Section 80C of the Income Tax Act, 1961. Furthermore, an additional contribution of up to INR 50,000 also qualifies for tax deduction under Section 80CCD (1B) of the Income Tax Act, 1961.||No tax benefit is available for contributions made to NPS Tier 2 account.|
|Tax on withdrawals||On maturity, the entire pension fund amount is tax-exempt.||The amount is added to your taxable income and taxed per your slab rates.|
|Limit on withdrawals||You can withdraw 60% of the corpus on retirement and use the remaining 40% to purchase an annuity plan.||You can withdraw the entire corpus of NPS Tier 2 accounts. Furthermore, it can be as a lump sum or in multiple transactions without any restriction.|
|Transfer of Funds||Tier 2 funds may be transferred to Tier 1 accounts. Additionally, current EPF funds can also be transferred to Tier 1.||NPS Tier 2 account doesn’t allow any fund transfers.|
|Fund Management ChargesSame for both Tier 1 and Tier 2 Accounts Asset ClassesThe asset classes across which the investments can be made are the same for both NPS Tier 1 and 2 accounts. Following are the asset classes:|
Equity (E): The scheme primarily invests in equity market securities.
Corporate Debt (C): The scheme invests in bonds issued by public sector entities, public financial institutions, infrastructure companies, and also money market instruments.
Government Securities (G): The scheme invests in government securities, state government securities, and also money market instruments.
Alternative Investment Funds (A): This asset class invests in instruments such as CMBS, REITS, and AIFs.
NPS Tier 1 Vs Tier 2 – Which is Better?
Tier I and Tier II account each serve a distinct purpose. While a Tier I account can assist you in building your retirement corpus, a Tier II account can act as a supplement to your retirement corpus, providing a high degree of liquidity. Tier 1 accounts, for example, are substantially more restrictive, with fewer withdrawal options before maturity. As a result, investors cannot rely on the Tier 1 corpus unless in extreme circumstances.
On the other hand, Tier 2 accounts are not subject to any withdrawal restrictions. Thus, you are free to withdraw funds prematurely to meet a variety of purposes. As a result, Tier 2 account holders can better manage their financial obligations with this accrued balance.
Tier 1 account investments offer Income Tax deductions. Section 80C allows for a deduction of up to INR 1.5 lakhs, as well as tax exemption on an additional investment of up to INR 50,000. Also, the maturity amount is completely tax exempted as well.
On the other hand, Tier 2 accounts are not tax-advantaged. This significantly impairs your capacity to save money on your annual taxes.
While both Tier 1 and Tier 2 NPS accounts are almost the same, they differ in terms of investor flexibility and tax incentives. Furthermore, if you are a new investor, a Tier 1 account may be useful for creating a retirement corpus. Tier 1 account is a low investment scheme that also offers tax benefits. However, in order to open a Tier 2 account, you must first have a Tier 1 account.