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NPS Vatsalya: A Gimmicky Product That Should Be Avoided If You Are Serious About Investing For Your Children

This article discusses the NPS Vatsalya scheme that does not make any sense as a product for anyone even if you plan to invest for your children’s retirement.

NPS Vatsalya: A Gimmicky Product That Should Be Avoided If You Are Serious About Investing For Your Children


Posted on 26 Jul 2024
Author: Sayan Sircar
14 mins read
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This article discusses the NPS Vatsalya scheme that does not make any sense as a product for anyone even if you plan to invest for your children’s retirement.

NPS Vatsalya: A Gimmicky Product That Should Be Avoided If You Are Serious About Investing For Your Children

This article is a part of our detailed article series on avoidable investment plans for your children. Ensure you have read the other parts here:

📚 Topics covered:

What is the NPS Vatsalya Scheme?

Union Budget 2024 introduced the concept of the NPS Vatsalya Scheme. This scheme allows parents to open an NPS account for their child and contribute to it. Once the child becomes an adult at 18, this NPS Vatsalya Scheme account will become the child’s own NPS account for their retirement at the age of 60. There are no tax deductions available to the parent if they invest in the NPS Vatsalya Scheme.

Why is the NPS Vatsalya Scheme an unnecessary gimmick?

We need to understand which problem the NPS Vatsalya Scheme is supposed to solve. Let us ask these questions and answer them:

What is the parent supposed to invest for by opening this NPS Vatsalya Scheme account?

The NPS Vatsalya Scheme account is for the “retirement” of the child and not that of the parent.

When will the NPS Vatsalya Scheme account mature?

For a minor child, the account will mature at least 42 years later when the child turns 60 as per the current NPS rules. In fact, the age of the child and the NPS Vatsalya Scheme account maturity period look like this:

Age of child Years until maturity
1 59
2 58
3 57
4 56
5 55
6 54
7 53
8 52
9 51
10 50
11 49
12 48
13 47
14 46
15 45
16 44
17 43

Does opening the NPS Vatsalya Scheme account mean that the child enjoys 4 or more decades of compounding?

That is true since the maturity of the NPS Vatsalya Scheme is more than 40+ years as per the table above. So there is immense potential for growth.

But then, why is this an avoidable gimmick?

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Do you really need the NPS Vatsalya Scheme as an investment product today?

We will ask the parent, looking at the NPS Vatsalya Scheme for their child, these three questions:

  • Highest priority: Are you investing enough for your own retirement?
  • Medium priority: Are you investing enough for your child’s education?
  • Lower priority: Are you investing enough for your child’s first house?

If the answer to any of the above questions is a “No” or “Maybe” then NPS Vatsalya Scheme is not for you. You have more important and urgent goals to take care of:

  • One day you will retire. This is an unavoidable fact of life. Where will the money come from to spend in retirement?
  • Your child may not get admission to a subsidised government college like AIIMS that costs a few thousand a year. Even the cheapest IIT degree costs 10+ lakhs. Where will that money come from? Your own funds or educational loans?
  • We are in a boom in real estate as the country matures and the same price appreciation happens in real estate across the rest of India as seen abroad (New York, San Francisco, London etc.) and closer to home in Mumbai. How much of your child’s first salary will go into rent?

Related:
Why parents should invest for the downpayment of their child's first home?

Also read
You cannot beat inflation even with equity mutual funds: here's why

Why is the NPS Vatsalya Scheme an avoidable gimmick?

If after all of these considerations, you are still interested in NPS Vatsalya Scheme then we have more questions for you:

  • Can you not get the same results via, say, mutual funds? After all, mutual funds also invest in stocks and bonds and do not force you to keep the money locked for 40-60 years.
  • Are you afraid that you are not disciplined in investing and will pull out the money invested for the child’s use if not locked in? Retirement is a multi-decade and multi-crore corpus creation journey. If you are not disciplined to be on this journey then your own retirement will be at risk. Pulling out some amount from the child’s mutual funds will not make too much of a difference in this case unless you have a medical or similar emergency.
  • What about funds needed in dire emergencies? NPS allows only 20% corpus withdrawal if withdrawn before age 60. The rest must be used to buy a pension plan (or annuity). If there is a substantial amount in NPS that you need for an emergency, then you cannot get to it.
  • What if your child decides to retire early before age 60? NPS locks up your money up to 60. How will your child use the corpus if they want to leave their job at 40 and decide to start a business?

In the end, there is one more point that we need to mention here. Every investment has multiple criteria for checking suitability:

  • Return (R)
  • Risk (R)
  • Time horizon (T)
  • Taxes (T)
  • Legal / regulatory (L)
  • Liquidity (L)
  • Unique situations (U)

as described here: RRTTLLU: check these when choosing products for investing

We have so far addressed the Liquidity aspect here since the investment is locked until maturity. Now we will address the second L i.e. Legal / regulatory (L):

  • What if in a future budget the tax-free withdrawal of 60% of the NPS corpus rule is removed making NPS taxable?
  • What if returns on the pension plan that you are forced to purchase with 40% of your NPS corpus have very poor interest rates?
  • What if the proportion of corpus needed to compulsorily purchase an annuity gets increased to more than 40%?

How Does A Pension Plan Work

Since NPS is essentially a mutual fund with extra rules around liquidity and regulatory aspects, there is very little justification to open up another NPS account just for your child.

What are the alternatives to investing in NPS Vatsalya Scheme?

We are not saying that NPS Vatsalya Scheme is bad. We are saying that better alternatives with full flexibility and more options exist once you follow the process described below step-by-step:

Step 1: Identify your child’s goals

Your child’s school and other regular expenses will come from monthly income. But you need to plan for bigger expenses in advance:

Which of these are you saving for:

To understand how to create a child’s education plan:

Step 2: Insure yourself first

You need to ensure that an untimely death will not prevent your child from going to their future dream college. Term insurance is the right product here. Every earning member of the family must have adequate term insurance.

The whole family, i.e. child and parents should also have sufficient health insurance. This step prevents loss of income or a setback to investment goals due to illness.

Step 3: Make an investment plan to cover your child

Children’s education and other goals do not exist in isolation. They are a part of the comprehensive goal-based planning that parents need to do for their own retirement and everything else. The process is explained best with these examples:

There are more case studies here: Case Studies.

We have proven that the goal-based investing process works in most market conditions in this article: What is the best way to invest for your child’s college education?.

Step 4: Review the plan once a year

As time passes, things change:

  • stock markets go up and down creating or reducing portfolio value
  • income increases or decreases (sabbaticals, parents leaving the workforce to look at the kids, illnesses, parents re-entering the workforce)
  • the amount of money available increases (windfalls like inheritance or RSUs) or decreases (loss of income, death, medical emergencies)
  • college degree plans change as the kid grows up

Therefore the plan created in Step 3 has to be reviewed and rebalanced to check if you are still on track: Are your investments on track for your goals?.

Here are some FAQs on NPS Vatsalya Scheme for those who wish to learn more about it

Please use the Find feature of your browser to look for specific items of interest.

What is the NPS Vatsalya Scheme?

The NPS Vatsalya Scheme, introduced in Budget 2024, is a National Pension Scheme (NPS) designed specifically for minors. Parents and guardians can open an NPS account for their children and make contributions until the child turns 18. Upon reaching adulthood, the account can be converted into a regular NPS account.

Who is eligible to open an NPS Vatsalya account?

All parents and guardians, including Indian citizens, NRIs, and OCIs, are eligible to open an NPS Vatsalya account for their minor children.

What are the benefits of the NPS Vatsalya Scheme?

The benefits include promoting early savings habits, providing a substantial retirement corpus, ensuring portability of the account, and teaching children responsible financial management. The account can be converted to a standard NPS account upon the child reaching adulthood.

How does the NPS Vatsalya Scheme promote savings habits in children?

By opening an NPS Vatsalya account for minors, parents can teach children to save and invest from an early age. Once the child turns 18, they can manage and contribute to the account independently.

What happens to the NPS Vatsalya account when the child turns 18?

The NPS Vatsalya account is converted into a regular NPS account, which the child can manage and contribute to independently.

Can parents contribute to the NPS Vatsalya account on behalf of their children?

Yes, parents and guardians can make regular contributions to the NPS Vatsalya account on behalf of their children until they turn 18.

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This post titled NPS Vatsalya: A Gimmicky Product That Should Be Avoided If You Are Serious About Investing For Your Children first appeared on 26 Jul 2024 at https://arthgyaan.com


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