How much pension will I get from NPS? PFRDA proposes Pension Credits to help answer this

The Pension Fund Regulatory and Development Authority (PFRDA) recently issued a consultation paper titled Enhancing the 'National Pension System: Proposals for Flexible, Assured and Predictable Pension Schemes'.

The paper has proposed three types of schemes under the National Pension System (NPS), of which the third scheme could help subscribers answer the key question: 'How much pension will I get', through the use of Pension Credits.

In this article, let's understand what the proposed Pension Credits framework is under the third pension scheme mentioned in the consultation paper.

The third pension scheme will have a goal-based framework called "Pension Credits". This framework will provide a clear visibility of future pension payouts. As the subscriber will have complete visibility on post-retirement cash flows, s/he can focus on accumulating the required credits during the accumulation phase to achieve the target pension.

It will also shift focus from daily NAV fluctuations to accumulating credits for a target pension.

"Subscribers often question "How much pension will I get?" This scheme introduces 'Pension Credits' as an innovative goal-based framework, rooted in behavioural finance, providing clear visibility of future pension income entitlements. It shifts focus from daily NAV fluctuations to accumulating credits for a target pension, improving engagement, contribution persistency and flexibility of choice. The proposal aims to ensure predictable income, simplicity and information transparency, while allowing for future innovations like secondary markets," the paper says.

What is Pension Credit?

Pension Credit can be defined as a notional financial unit within the NPS framework, where each credit will guarantee a fixed monthly payout of ₹100/month for a fixed number of years after maturity.

Each Credit will have a fixed terminal value equivalent to ₹100 worth of pension payout per month for a fixed period of time.

For example, to achieve a target of ₹2 lakh/month pension, the subscriber would need to have purchased 2000 pension credits during the accumulation phase.

The price of each Pension Credit today would be the Present Value (PV) of the monthly cashflows of ₹100, discounted at a long-term return as per the Pension Fund's projections. "This rate shall be representative of the rate of return of investment during the accumulation phase arrived at using the internal expertise and actuarial evaluation basis the investment philosophy of the scheme by the respective PFs. Based on how early or late the subscriber purchases these Credits throughout his accumulation phase, will variate the price of the Pension Credit as per the Present Value of these cash flows on that specific day."

Source: PFRDA's consultation paper

Key features of Pension Credits

It would require subscribers to provide inputs on the year of retirement, target pension amount and scheme choice (Aggressive: 75% equity; Moderate: 50% equity; Conservative: 25% equity; Debt-Focused: mix of Corporate Bonds and Government Securities).

Under this system, the accumulation phase is proposed to be limited to a maximum of 15 years and the decumulation phase to 1-5 years.

The scheme will allow pension funds to issue credits for up to 20 maturity periods, with each credit maturing in a specific calendar year to commence payout in January of the following year.

The paper also proposes secondary market trading for pension credits to enhance flexibility and accessibility.

Pension Credit would ensure a predictable retirement income by aligning contributions with a target pension amount through goal-based investing.