Directions (1–10) : Read the following passage carefully and answer the questions given below it. Certain words have been printed in bold to help you locate them while answering some of the questions.
Direct plans of mutual funds have become a big hit due to low charges, but an uber low cost instrument remains largely undiscovered by investors. The fund management charges of NPS Tier II plans are barely 1% of the cost of the average direct plan. A direct mutual fund charges 0.75-1.5% - or Rs.750-1500 per year – for managing an investment of one lakh, compared with Rs.1500-2500 charged by a regular mutual fund. But NPS tier II plans charge only 0.01% - or Rs.10 per year – for managing an investment of 1 lakh.
The ultra-low costs mean higher returns for investors. NPS Tier II plans have outperformed mutual fund of the same vintage by 70-200 basis points across different time frames. The corporate bond funds have delivered average compounded returns of 10.91% in the past 5 years compared to 8.89% churned out by long term income funds. The difference e in the fund management charges of mutual funds and NPS is the margin of out performance between the two products.
Despite the obvious advantage of higher returns, very few investors have put money in NPS Tier II plans. The total AUM of the NPS is a tiny fraction of the estimated RS. 5,00,000 crore invested in direct mutual funds. Why have investors ignored this low cost haven that offers higher returns? Much of this has to do with the ease of investment. Till last year, investing in NPS was an uphill task. The NPS also did not have a favorable tax treatment. Since Tier II accounts can be opened only if you have a Tier I account, very few cared to enter this space. The other problem is ambiguity over taxation. There is no clarity on tax treatment of Tier II NPS returns and it is very subjective.
However, while NPS Tier II plans can replace debt funds in your portfolio, they may not be able to match the returns generated by actively managing diversified equity funds. NPS has the lowest fund management charges, but there are also ancillary charges. There will be 0.25% entry load on the invested amount, subject to a maximum of Rs. 25. if you invest online, there are gateway charges. Any other transaction like a switch, withdrawal or a request for a statement will cost you. It is suitable only for higher value transactions where the impact will be minimal.
Meanwhile NPS funds continue to churn out double digit returns for investors. The bond rally that began in Feb last year has seen long term bond yields decline by almost 175 basis points. With their portfolios lined with long term bonds, the government bond funds of the NPS have shot up, while equity funds have benefitted from the stock market rally. Central and state government employees covered by the NPS have earned up to 11.46% in the past three years. Meanwhile in NPS Tier I, ICICI Prudential Pension Fund remains the best long term performer, Kotak Pension Fund and UTI retirement solutions have emerged on top in the near term. If we look at one year returns, the bond rally has rewarded ultra-safe investors who stayed away from equities. A balanced approach or a conservative allocation that takes some exposure to stocks can yield better results