NPS vs ELSS: Which will help build a bigger retirement corpus?
Posted by: Girija Gadre, Arti Bhargava and Labdhi Mehta on Feb 20, 2017, 10.08 AM IST
Adrian is an equity analyst in his late thirties. He earns well and is able to afford a high standard of living. He holds some equity shares and fixed deposits with banks. He has some savings but would now like to build a bankable retirement corpus. It is also time for him to make his annual tax savings. He is contemplating investing in NPS, since it provides the additional tax benefit of Rs 15,000 in the 30% bracket too. However, his friend has advised him to consider ELSS. Adrian is unsure as ELSS is not a retirement product.
Adrian must not mix retirement planning with tax planning. He has to start planning for retirement with a corpus estimation, which will lead him to a required rate of return. In other words, he must choose his investments based on the required rate of return. The bigger the corpus, the higher the required rate of return. The higher rate of return, the greater the benefit of compounding, which will accelerate growth in the corpus. If Adrian's objective is to accumulate a corpus large enough to support his current standard of living even after retirement, he will need to invest in instruments that will have the potential to provide a high rate of return.
NPS is a long-term saving instrument, apt for retirement planning. But its return potential is limited by the fact that equity allocation is capped at 50%. The potential in terms of returns is higher in ELSS, which is a pure equity portfolio. The question for Adrian to consider is this: How does the NPS' advantage of a ready retirement solution and higher initial tax break compare with the return potential of ELSS (proxy for equity)? Moreover, the disadvantages faced at withdrawal make NPS relatively less attractive.
Adrian must be prudent and avoid jumping into investment decisions purely based on available tax benefits. With ample time on his side, he can maximise his return potential by taking a higher allocation to equity, which might surpass the additional tax benefit provided by NPS at the time of investment. ELSS provides him the comfort of a pure equity product, with EEE taxation. After all, there is nothing that stops him from using ELSS for building his retirement corpus.