BAJAJ BROKING
February 12, 2025
7 mins read
Planning for retirement is extremely important, especially for those who do not get a pension. In this context, the National Pension System (NPS) Read more...of the Central Government can help people plan for their retirement by creating a retirement fund.
NPS is a voluntary contribution scheme open to people employed in public, private, and unorganised sectors. It invests in assets like equities, corporate bonds, government bonds, and alternative investment funds, which help subscribers earn a decent return over a long period.
If you want to invest in NPS, you have to open a Tier 1 account. Besides, you have an option to open a Tier 2 account. A Tier I account is different from a Tier II account in terms of its benefits, limitations, withdrawal options, and tax benefits. Hence, it is important to know the features before investing. Read less
If you are employed in the public, private, or unorganised sector and want to create a fund for your retirement, you can consider the National Pension System (NPS), which is a scheme of the Central Government.
The scheme has many merits. For example, it is market-linked, which helps your portfolio grow as the value of assets in which you invest increases. If you invest for a significant number of years, you will gain thanks to the power of compounding.
Hence, if you are keen to invest in NPS, the sooner you do it, the better. That said, you need to understand the differences between NPS Tier 1 and Tier 2 accounts. When you start subscribing to NPS, it is mandatory to open a Tier 1 account. However, it is not mandatory to have a Tier 2 account. Anyone with a Tier 1 account can open a Tier 2 account, but it is an option and not a necessary condition.
Read this blog, as it explains the key differences between these two accounts, throws light on NPS Tier 1 vs. Tier 2 accounts, and helps you plan for your retirement.
The National Pension System (NPS) is a voluntary scheme that allows people to invest so that they can get a pension after they retire. It is a Central Government’s scheme and is administered by the Pension Fund Regulatory and Development Authority (PFRDA).
NPS is open for voluntary contributions by the employees of the public, private, and unorganised sectors. When subscribers open an NPS account, they have to make regular contributions to it. They can withdraw a part of their corpus on retirement. With the rest, they can get a monthly pension. NPS is a market-linked scheme, which invests in assets like equities, corporate bonds, government bonds, and alternative investment funds.
If you are about to open an NPS account, you need to understand its features pertaining to eligibility criteria, lock-in period, tax benefits, etc. So, read on.
NPS Tier 1: This scheme is open to all Indian citizens between 18 and 60 years of age.
NPS Tier 2: This scheme is open to only those individuals who have an active Tier 1 account.
Minimum Investment: The minimum investment in a Tier 1 account is ₹ 500 and in a Tier 2 account is ₹ 1,000.
Lock-in Period for NPS Tier 1 and Tier 2 accounts
NPS Tier 1 account: A subscriber is not allowed to withdraw money from his Tier 1 account before he turns 60. However, there are certain exceptions to it. For example, a partial withdrawal can be made from a Tier 1 account after 3 years of opening the account for reasons like higher education of a subscriber, his spouse or children, etc. Hence, subscribers should carefully read rules to make premature withdrawals.
NPS Tier 2: A subscriber can withdraw money anytime from his Tier 2 account, as it does not have a lock-in period.
Tax Benefits for NPS Tier 1 and Tier 2 accounts
NPS Tier 1: Under Section 80C of the Income Tax Act, contributions to a Tier 1 account are eligible for an annual tax deduction of up to ₹ 1.5 lakh. Besides, another tax deduction of ₹ 50,000 is provided under Section 80CCD(1B) on such contributions.
NPS Tier 2: There are no tax exemptions on contributions made to an NPS Tier 2 account.
Withdrawal Rules: Comparing Tier 1 and Tier 2 accounts
NPS Tier 1: There are restrictions on withdrawals from a Tier 1 account until a subscriber turns 60. When he turns 60, he can withdraw up to 60% of the value of his fund. With the remaining, he can purchase an annuity, which allows him to get a pension. Meanwhile, a subscriber can make premature withdrawals from a Tier 1 account after the completion of 3 years from the date of opening the account. But, withdrawals can only be made for a few reasons, which include “higher education of a subscriber, his spouse or children,” “marriage of his children,” “medical treatment of certain illnesses of himself, children, spouse, or dependent parents,” etc.
NPS Tier 2: One of the main objectives of a Tier 2 account is to provide flexibility of withdrawal to a subscriber. Hence, a subscriber can withdraw his funds from a Tier 2 account whenever he wants.
If you want to open an NPS account, it is important to compare a Tier 1 account with a Tier 2 account. The following table helps you get clarity on NPS Tier 1 vs. Tier 2 account.
Criteria | NPS Tier 1 account | NPS Tier 2 account |
Who can open an account? | All Indian citizens between 18 and 70 years of age can open an NPS Tier 1 account. | All Indian citizens who have a Tier 1 account can open a Tier 2 account as well. |
Withdrawal and Lock-in Period | Contributions to a Tier 1 account cannot be withdrawn until a subscriber turns 60 years of age. Even upon turning 60, he can withdraw only up to 60% of his corpus. He has to purchase an annuity with the remaining amount to get a pension. That said, premature withdrawals are allowed from a Tier 1 account after 3 years of opening it. However, even to make premature withdrawals, you have to meet certain criteria. | There is no lock-in period in the case of a Tier 2 account. Hence, a subscriber can withdraw his investments from a Tier 2 account whenever he wishes. |
Tax Benefits | Section 80C of the Income Tax Act allows a subscriber an annual tax deduction of up to ₹ 1.5 lakh for his contributions to a Tier 1 account. On top of it, he can get another tax deduction of ₹ 50,000 for such contributions under Section 80CCD(1B). | A Tier 2 account offers no tax benefits or deductions. |
Transfer of funds | A subscriber can transfer funds from his Employee Provident Fund (EPF) or an NPS Tier 2 account to an NPS Tier 1 account. | However, a subscriber is not allowed to transfer funds from an NPS Tier I account to a Tier II account. |
The main benefits of NPS are explained below:
a) Helps save for retirement: NPS is a Central Government’s scheme that helps people save for their retirement. It can be a potential alternative to those who do not get a pension. Besides, it is market-linked. Hence, it can provide decent returns as well.
b) Variety of assets to choose from: NPS allows its subscribers to select from a range of assets to invest their funds, which includes equities, government bonds, corporate bonds, and alternative investment funds. If a subscriber selects these assets wisely, he can generate decent returns over time.
c) Easily transferable: NPS can be easily transferred from one job to another or from one location to another. It is a trouble-free investment option from this perspective.
NPS can be one of the options for people keen to build a fund for their retirement. However, it is extremely important to understand its features. For example, a Tier 1 account comes with restrictions on withdrawals, although it offers tax benefits. On the other hand, a Tier 2 account does not have withdrawal restrictions but offers no tax benefits.
As an investor, you have to first decide whether you want to open an NPS account or not. Having opened a Tier 1 account, you need to decide whether to open a Tier 2 account or not. Both these decisions have to be taken with a long-term view because they can have profound consequences on your life and investments.
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Disclaimer: Investments in the securities market are subject to market risk, read all related documents carefully before investing.
This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.
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If an NPS account holder dies before turning 60, his legal nominee or heir is entitled to get the entire fund. He has the option to either withdraw the entire amount or continue with the account.
As per Section 80C of the Income Tax Act, you can get an annual tax deduction of up to ₹ 1.5 lakh for your contributions to a Tier 1 account. You can get another tax deduction amounting to ₹ 50,000 for such contributions under Section 80CCD(1B).
Both Tier 1 and Tier 2 accounts have their merits and demerits. For example, a Tier 1 account helps you create a fund for your retirement, but it has withdrawal restrictions. Besides, a Tier 1 account also provides tax benefits, On the other hand, a Tier 2 account does not have withdrawal restrictions but it does not offer tax benefits.
No, you cannot do that. However, you can open both a Tier 1 and a Tier 2 account at the same time to benefit from their features.
Yes, an account holder can appoint a nominee for his NPS Tier 1 and Tier 2 accounts.
Yes, you can invest in both an NPS Tier 1 and a Tier 2 account. These accounts have their unique advantages. For example, contributions to a Tier 1 account offer tax benefits and allow you to create a corpus for your retirement. However, a Tier 1 account has withdrawal restrictions. Meanwhile, a Tier 2 account allows you to withdraw money anytime but does not offer tax benefits.
An NPS Tier 2 account is fundamentally different from an FD. A Tier 2 account allows you to withdraw your funds anytime, which you cannot do from an FD. Besides, an FD offers a fixed rate of interest. However, an NPS Tier 2 account invests in assets like equities, government bonds, corporate bonds, and alternative investment funds. Hence, it does not offer a fixed interest. So, ideally speaking, a Tier 2 account should not be compared with an FD.
When you start contributing to your National Pension System (NPS) account, you have to compulsorily open a Tier 1 account, which allows you to create a fund for your retirement but it has withdrawal restrictions. If you have a Tier 1 account, you have an option to open a Tier 2 account, which allows you to withdraw money whenever you wish.
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