The National Pension System (NPS) is an increasingly popular way for Indians to build a retirement corpus. Launched in 2004, the government-backed pension scheme allows subscribers to invest systematically
during their working years and use the accumulated corpus to generate income after retirement. NPS offers two types of accounts- Tier 1 and Tier 2- but the two serve different purposes.
Tier 1 is primarily designed for retirement savings, with restrictions on withdrawals and specific tax benefits. Tier 2, meanwhile, is a voluntary investment account that offers greater flexibility but generally does not provide the same tax advantages.
So, what is the difference between NPS Tier 1 and Tier 2? Who can open these accounts, how much can you invest, and what tax benefits are available, especially under the new tax regime?
What Is An NPS Tier 1 Account?
Tier 1 is the primary NPS account and is designed for long-term retirement savings. It is the core account through which subscribers build their retirement corpus. The money can be invested across different asset classes under the NPS framework, depending on the investment choice made by the subscriber. Since Tier 1 is intended for retirement planning, withdrawals are restricted compared with ordinary investment or savings accounts. The idea is to encourage disciplined, long-term savings rather than allow subscribers to frequently dip into their retirement corpus. Tier 1 is also the account through which eligible subscribers can claim the principal NPS-related tax benefits, depending on the tax regime they choose.
What Is An NPS Tier 2 Account?
Tier 2 is an optional investment account linked to NPS. Unlike Tier 1, it is designed to offer greater liquidity rather than function primarily as a retirement account. Money invested in Tier 2 can generally be withdrawn when required, subject to applicable NPS rules. However, the trade-off is that contributions to a regular Tier 2 account generally do not qualify for the tax deductions available on eligible Tier 1 contributions. Importantly, an active Tier 1 account is required to open a Tier 2 account.
Who Can Open An NPS Account?
The eligibility rules are broader than the older 18-to-60 age limit still commonly quoted. Under the current NPS All Citizen Model, eligible Indian citizens, including resident and non-resident citizens, can subscribe between 18 and 85 years, subject to applicable conditions and KYC requirements. Overseas Citizens of India can also subscribe under the current framework. For Tier 2, however, the subscriber must have an active Tier 1 account.
How Much Do You Need To Open NPS?
A Tier 1 account can be opened with a minimum contribution of ₹500, while the minimum contribution required to open a Tier 2 account is ₹1,000. There is no prescribed upper limit on the amount an individual can contribute to NPS. The final corpus depends on factors such as the amount invested, investment duration and returns generated by the chosen asset allocation.
Can You Withdraw Money From NPS Tier 1?
Yes, but with restrictions. Eligible subscribers can make partial withdrawals from Tier 1 subject to specified conditions. Under current rules, such withdrawals can generally be made up to four times, with a four-year gap between withdrawals before age 60. The permitted amount is generally capped at 25% of the subscriber’s own contributions. Tier 2 offers considerably greater flexibility. Unlike Tier 1, a regular Tier 2 account does not have the same withdrawal restrictions, allowing subscribers to access their money when required.
What Are Tax Benefits Of NPS?
Under the old tax regime, eligible individual contributions to Tier 1 can qualify for a deduction under Section 80CCD(1), within the overall ₹1.5 lakh limit covering Sections 80C, 80CCC and 80CCD(1). An additional deduction of up to ₹50,000 under Section 80CCD(1B) is also available, subject to applicable conditions. However, these individual-contribution deductions are not available under the new tax regime.
The key NPS tax benefit that remains under the new regime is Section 80CCD(2), which allows eligible employees to claim a deduction for their employer’s contribution to NPS, subject to prescribed limits. For employees under the new regime, the deduction can be available for an employer contribution of up to 14% of salary.
For taxpayers under the new regime, therefore, NPS remains particularly relevant where the employer contributes to the employee’s NPS account, even though the employee cannot claim the ₹50,000 additional deduction for their own contribution.
