Retirement Planning: How to choose allocation towards schemes E/G/C in NPS?

Most Indians still look at the National Pension System (NPS) as a tool to save some extra tax ( ₹50,000 yearly under the old regime). But to give credit where it is due, NPS is a pretty useful vehicle for focused savings toward retirement. In fact, NPS might be the only retirement-focused investment product that attempts to put in place a source for reliable pension during the retirement years.

So assuming you do invest in NPS a bit more seriously (than just for tax saving) and plan to accumulate a sizable corpus by your retirement, the important question is to choose the right asset allocation. That is, how much to allocate between equity and debt.

NPS Subscribers have four asset classes to choose from:

1. Equities (Scheme E) – This is where the money is invested in equity markets via stocks or equity-related instruments of companies listed in India. Historically, equity investments have had the potential for higher returns over the long term.
2. Government Securities (Scheme G) – In this debt asset class, the investments are made in securities issued by the central and/or state governments.
3. Corporate Debt (Scheme C) – In this, the money is invested in money market instruments and bonds issued by various corporations including infrastructure companies, PSUs, PFIs etc.
4. Alternative Investment Funds or AIFs (Scheme A) – This asset class offers alternatives to traditional instruments and the money is invested in REITs, InvITs, etc.

These are the asset classes available. Now let’s see the allocation that one can have among these assets.

NPS allows two choices – Auto choice and Active choice.

In the auto-choice of NPS, the subscribers don’t have to decide the asset allocation on their own. It is done automatically based on their choice of one of the three available Life Cycle (LC) Funds. These are as follows:

1. Aggressive Life Cycle (LC75) Fund - Has an upper cap on equity of 75% up to age 35. Afterwards, it tapers down to 15% by the age of 55.
2. Moderate Life Cycle (LC50) Fund - Has an upper cap on equity of 50% up to age 35. Afterwards, it tapers down to 10% by the age of 55.
3. Conservative Life Cycle (LC25) Fund - Has an upper cap on equity of 25% up to age 35. Afterwards, it tapers down to 5% by the age of 55.

The other option is active-choice of NPS. It is in this option where the NPS subscribers get to decide their own asset allocation (within some limits).

In active choice, the NPS corpus can have a maximum of 75% in Asset Class E (Equity). After the age of 50, the maximum allowed equity limit reduces by 2.5% each year till it reaches 50% by the age of 60.

These are the options on the table. That is, four asset classes (Schemes E, G, C and A); and two investment choices (Active or Auto).

Now all said and done, how should you go about choosing the asset allocation for your NPS corpus?

First things first – NPS is purely a retirement savings tool. So its allocation should always be chosen in a manner which is suited to your retirement goal and investment horizon (i.e. years left for retirement).

Another thing to keep in mind is that NPS competes with few other products that are commonly used for retirement savings. I am talking about EPF or PPF. And nowadays, equity funds as well.

So your decision on NPS asset allocation should be taken after giving cognizance to the existing allocation of retirement-earmarked instruments like EPF, PPF and equity funds. And it goes without saying that your risk profile will also play a role here.

To give you some examples of how to go about it, here are a few thoughts -

• If you are young, you still have at least 2 decades before you retire, then you can afford to be aggressive with your retirement savings (unless of course, your risk appetite or risk profile itself doesn’t allow it). So all your retirement investments should have a large allocation towards equities. If NPS is one of the products you use for retirement savings, then your NPS asset allocation should have a high allocation to equity or Scheme E.
• If you aren’t exactly young and say have about 10 years left for retirement, but you also have a large allocation to debt savings (via EPF, VPF and PPF), then you can have a high equity allocation in NPS via scheme E.
• If you have been using equity funds primarily for retirement, then obviously your equity allocation is already very high. And if your EPF corpus isn’t big (compared to equity funds corpus), then you can treat NPS as part of the debt side of retirement corpus and give higher weightage to Schemes G and C.

So if I have to summaries this discussion, then it is that NPS asset allocation should be decided on the basis of what is the allocation of the remaining retirement portfolio that you have (like EPF, VPF, PPF, equity funds, etc.).

Dev Ashish is a Sebi-registered investment adviser and the founder of Stable Investor