Mutual Funds
by 5paisa Research Team Last Updated: 2023-07-04T13:00:18+05:30
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Both NPS and mutual funds present significant opportunities for capital growth in India. Both are easy to invest in and often provide faster capital appreciation than conventional financial instruments. Hence, choosing a clear winner in the ‘NPS vs Mutual Fund’ debate is not easy. Scroll down to the following sections to learn about the top differences between NPS and mutual funds to make the right decision.


What is the National Pension Scheme (NPS)?

NPS is the abbreviated form of the National Pension Scheme. It is a social security scheme conceptualized by the Government of India. Except for the armed forces, every Indian citizen working with public firms, private firms, and in the unorganized sector can invest in NPS.    

You can often hear a lot about NPS vs SIP. NPS is much like a Systematic Investment Plan (SIP) or Recurring Deposit (RD), where you invest a fixed amount every month until the investment objectives are fulfilled, or you reach the retirement age. After reaching your retirement age, you can pull out a part of the corpus while the remaining stays with the PFRDA-registered pension fund manager. PFRDA or Pension Fund Regulatory and Development Authority oversees and regulates NPS across the country.  

Prior to this, only central government personnel had access to NPS. But as of right now, the government has made it accessible to any Indian citizen who is employed in some capacity (apart from those in the military services). 

Who Should Invest in the National Pension Scheme (NPS)?

Anyone who wants to start planning for retirement early and has a low tolerance for risk should consider the NPS. It goes without saying that having a steady pension (income) throughout your golden years will be a blessing, especially for those who leave private-sector employment.

Your life after retirement might significantly improve with such a methodical investment. In fact, salaried individuals who desire to maximize their 80C deductions can also take this plan into consideration.

NPS is extremely well-liked by investors who work for private businesses. The existence of an NPS account might be advantageous because private businesses often do not offer any retirement benefits. Additionally, the NPS account's continued functionality even after changing professions raises public perceptions of its acceptability. In accordance with Sections 80C and 80CCD of the Income Tax Act, NPS accounts also provide tax advantages.

What is a Mutual Fund?

Mutual funds are a flexible financial instrument for people willing to diversify their investments and benefit from the economy’s growth. 

Mutual fund schemes are managed and run by Asset Management Companies or AMCs. They offer two types of mutual fund schemes to investors - open-ended and close-ended. 

Open-ended schemes are easy-to-enter, easy-to-exit investment schemes that people prefer for liquidity and diversification. Close-ended schemes keep your money locked until the maturity date. Close-ended funds provide mutual fund managers more liberty to handle the funds without worrying about redemptions. 

Moreover, you can invest in equity, debt, or commodity-focused mutual funds. Equity mutual funds invest in top-quality stocks listed on stock exchanges like NSE and BSE. Debt mutual funds invest in good quality corporate bonds, sovereign papers, and money market instruments. And, commodity-focused mutual funds invest in commodities like gold, silver, etc. 

Why Invest in a Mutual Fund?

You can choose to invest in mutual funds as it provides you with the following benefits:

1. Diversification of Risks: Risk diversification is one of the major advantages of mutual funds. Mutual funds are solely exposed to systematic risk or market risk, whereas individual equities are liable to both systematic and unsystematic hazards.

2. Expert-Management:  One of the most significant benefits of a mutual fund is the portfolio management provided by qualified fund managers. Professional full-time money managers who have the knowledge, experience, and resources to actively purchase, sell, and monitor investments are in charge of running a mutual fund.

3. Convenience & Affordability: Directly purchasing all of the individual assets held by a single mutual fund could be more expensive for many investors. In contrast, most mutual funds have lower initial minimum investments.

4. Liquidity: Units of open ended mutual fund schemes can be quickly redeemed (liquidated) to fulfill your financial demands on any business day, giving you easy access to your money. The redemption money is placed in your bank account between one day to three days, depending on the kind of scheme.

5. Tax benefits: The benefit is available for investments in ELSS funds for up to Rs. 1,50,000 under section 80C of the Income Tax Act of 1961. Investments in mutual funds are tax effective when kept for a longer period of time.


NPS vs Mutual Fund – Difference Between NPS and Mutual Fund

1. Risk Exposure

You must accept some risk whether you invest in mutual funds or NPS. But unlike mutual funds, NPS rarely gives you the chance to manage the risks.While ELSS has a higher exposure to equity-oriented mutual funds than NPS, the investment risk is also higher for ELSS. On the other hand, the level of risk that an investor is ready to accept is defined by his or her own costs and expenses.

2. Tax Advantages

Both investment options offer tax benefits. The tax advantages of NPS, however, surpass those of equity mutual funds, whose long-term returns are subject to a 10% exit tax. Compared to Rs 1.5 lakh for ELSS plans, NPS programs provide a larger tax deduction of up to Rs 2 lakh under Sec 80C. The advantage of NPS is that you may take a lump sum withdrawal of up to 60% of the whole corpus at maturity, with 40% of that amount being tax-free. NPS may appear to be less tax-efficient than mutual funds at first glance, yet mutual funds often offer larger returns than NPS. The trade-off is therefore between returns and tax: the bigger the potential income opportunities, the lesser the potential tax benefits.

3. Distribution of Equity

While ELSS invests mostly in equity-oriented mutual funds, NPS allocates less of its assets to these types of mutual funds. ELSS therefore has a larger chance of generating bigger returns than NPS. Fund Management Fees: NPS is the most cost-effective managed retirement fund, with a 0.1% management fee. The expense ratio imposed by mutual funds or asset management companies runs from 0.50% to 1.50%, which is much more than the expense of NPS administration.

4. Flexibility of Withdrawals

Withdrawal limits apply to Tier I NPS investments, which are necessary to open an NPS account. You must wait at least 10 years or until you are 60 before you may recover your whole investment. However, provided the requirements are satisfied, you may withdraw up to 25% of your submission in part. You consequently have limited investment freedom. You may only invest up to 75% of your entire NPS investment in stocks through NPS.

5. Return on Investment

The central topic of discussion in the "mutual fund vs. NPS" argument is return on investment. Compared to traditional fixed income securities like bank fixed deposits and sovereign saving plans, NPS often offer better returns. The NPS plan has historically provided returns between 8% and 10% annually since its establishment, according to a brief perusal of the document. In contrast, when market circumstances are favorable, pure equities mutual funds may offer significantly larger returns than NPS. For instance, several equity mutual fund schemes saw their invested money quadruple or even increase by more than double that amount between May 2020 and May 2021.Because of this, mutual funds provide greater potential for development than NPS, and investors who are ready to take on additional risk in order to achieve larger returns choose them.

6. Liquidity

Compared to NPS, open-ended mutual fund schemes are more liquid.You cannot withdraw funds from an NPS before turning 60 if you invest in one. When you turn 60, you are only allowed to take 60% of your whole corpus and maintain the remaining 40% with the fund management to get a lifetime pension. Since the majority of mutual fund programs are open-ended, you can withdraw your money whenever you choose. However, there is a chance that your withdrawal will be subject to an exit load, LTCG tax, or STCG tax (short-term capital gains tax). NPS withdrawals, on the other hand, are tax-free.

7. Fund Management Expenses

With 0.1% management fees, NPS is the most economical managed retirement fund. Asset management businesses or mutual funds charge spending ratios ranging from 0.50% to 1.50%, which is much more than the cost of NPS administration.

Lock-in period

In case of mutual funds, ELSS has a three-year lock-in term, but NPS has a lock-in period that lasts till retirement, which is significantly longer than the tax-saving mutual fund ELSS. You cannot withdraw your full investment unless you have completed at least 10 years or reached the age of 60. However, partial withdrawals are permitted for very particular circumstances, subject to a 25% maximum (of the subscriber's total payments).

Benefits of National Pension Schemes

●  NPS provides a selection of Pension Funds (PFs) and a range of investment possibilities so that investors may plan their investments' growth in a responsible manner and keep tabs on the pension fund's expansion. Subscribers have the option of switching from one investment choice or fund manager to another.

●  NPS offers effortless mobility between occupations and places. In contrast to many pension programs in India, it would allow individual members to move to a new job or area without having to worry about leaving behind the corpus built up.
NPS is governed by PFRDA, and NPS Trust regularly monitors and evaluates the performance of fund managers. Comparing NPS's account maintenance fees to those of similar pension schemes offered worldwide, they are the lowest. 

●  Cost is crucial when investing for a long-term objective like retirement because fees can significantly reduce the corpus during a 35–40 year investment period. A pension's asset accumulation increases over time with a compounding impact until retirement, providing the dual benefits of low cost and power of compounding. Due to the minimal account maintenance fees, the subscriber eventually benefits greatly from the accrued pension money.


Key Takeaway on NPS vs Mutual Fund

Without a question, retirement planning is a vital element of personal money management, and with so many investment alternatives available, it may be overwhelming. The National Pension Scheme (NPS), which operates under the auspices of the PFRDA, India's pension regulating organization, has carved itself a place in this market. Furthermore, some people refer to it as a retirement mutual fund.

NPS and mutual funds, both offer excellent opportunities to increase your money intelligently. However, identifying a clear victor in the mutual funds versus NPS discussion is dependent on your financial goals and risk tolerance. Mutual funds are ideal if you don't mind accepting a little additional risk. However, if you want consistent growth without considerable capital appreciation, NPS is your best choice.

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More About Mutual Funds

Frequently Asked Questions

In fact, yes. The money can be moved between the three categories of stock, corporate bonds, and government bonds.

A mutual fund investor has access to several funds in which to invest. This is not the case with NPS because the subscriber must remain loyal to a single fund throughout.

No, the SEBI (Securities and Exchange Board of India) regulates and monitors all mutual funds, whereas the PFRDA regulates NPS (Pension Fund Regulatory Development Authority of India).

Any person who subscribes to an NPS may receive a tax advantage under Section 80 CCD (1) up to Rs. 1.5 lac total under Section 80 CCE. Only NPS members are eligible for an extra deduction for investments up to Rs. 50,000 in NPS (Tier I accounts) under paragraph 80CCD (1B). This is in addition to the section 80C deduction of Rs. 1.5 lakh permitted under the Income Tax Act of 1961.