How NPS Vatsalya can build wealth for your child

What is NPS Vatsalya?

The biggest advantage of this scheme is that it can be opened effortlessly. Just go to any of the POPs, visit NSDL, and use the eNPS account. And put the child's name and other details, then you can start investing for them. To begin with, if you're able to put together something like Rs 1,000-10,000 on the child's birthday each year, that is good enough. You don't need to open a bank account, prepare for the KYC, or fulfil any other requirements, such as operating a minor account.

The second thing is that, even in a limited manner, if you do this for 18 years, it demonstrates the long-term potential of equity—the great returns. All other government-provided investment avenues are fixed income, whether it's Sukanya Samriddhi Yojana or PPF for minors. They don't demonstrate the magic of compounding at a rate greater than equity.

For starters, I'd like to see some essential improvements. The maximum allocation to equity is 75 per cent. It should be 100 per cent. You know, when you're investing for a child, and for a period of 18 years or more, why not 100 per cent?

And there can't be a better design than NPS due to its low cost and secure structure. While I'd like many improvements, this is a good starting point.

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Is it reasonable to have the withdrawal limit set at 25 per cent of the contribution?

No, it doesn't make sense. And this is why I think the Vatsalya scheme is a good start, but it needs improvement. First, it should allow for 100 per cent equity allocation. When you're investing for 10 years or more, having the highest allocation to equity will only enhance performance. Second, the 25 per cent withdrawal restriction shouldn't be tailored to a child's retirement. It should aim to finance the child's education because that is a future investment.

Of course, the government is working towards simplifying tax policies. The new tax regime is a demonstration of that as it has simplified and eliminated tax exemptions. But this is one case where I'd like to see an exemption, even if it violates my core principle of simplifying things.

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Up to Rs 1 lakh of annual contributions to the Vatsalya scheme should be tax-exempt. This should be a deductible expense. This is because every government policy should incentivise people to save for their child's education, which is becoming increasingly expensive.

Can NPS Vatsalya be utilised to build wealth for children?

Yes, NPS Vatsalya can build wealth. In the Indian family framework, grandparents are all the more excited to invest money for their grandchildren. While parents may have essential expenses that can restrict them from saving, Vatsalya is a vehicle where money can be invested for the long term.

A substantial amount will be invested in equity, and it's low cost. Over any period of 10-15 years, it can have a dramatic impact. However, it can be improved substantially, and then it will become very compelling.

Viewer's Question

If I have a portfolio of five equity fund 'categories' (not funds but categories):Flexi Cap, Mid Cap, Large & Mid Cap, Small Cap, and a Contra/ Value maybe, is it advisable to have more than one fund in each equity category while maintaining the same overall allocation, as a way to hedge against AMC and manager risks in active funds? - Amarendra Kumar

It depends on the complexity and the scale. If you are investing Rs 10,000 in all five categories equally, then it's fine. Unless you've reached a significant scale, it may not be worthwhile because you'd have to track many more funds instead of just five. Once you've reached a certain scale, it might be meaningful.

After all, there's always more than one promising fund in a given category. And it's hard to say which is the best.

It is always useful to bet on a couple of good ones rather than just one. Also, spreading your investments across five categories is helpful because different components of the market - Contra, Large & Mid-cap, Small-cap, etc. - are cyclical. Sometimes, one will do well, and at other times, another will perform better. For example, when small caps and mid caps are doing well, contra funds may not. When contra funds are performing well, small caps may struggle. This is true diversification.

If you don't have an international allocation in your portfolio, now is not a good time to chart out money for it. But it is also something to keep an eye on. This would mean you'd end up with six funds, and then having 12 funds might not be a bad idea, but make sure you diversify properly with more than one fund in each category. It can be meaningful once you have a portfolio of Rs 10-20 lakh or more. At smaller scales, don't add too many funds. Once you've reached scale, then diversifying further becomes more important.

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This article was originally published on September 27, 2024.