UPS Or NPS: Which One Should You Choose?

About a month after the Union Budget was announced in July 2024, the government approved the new Unified Pension Scheme (UPS) for central government employees, as an alternative to the National Pension System (NPS).

Around 20 years ago, when NPS replaced the Old Pension Scheme (OPS) in January 2004, it faced a lot of opposition. NPS allowed the transition from a defined to a market-linked benefit scheme, but the fact that the returns couldn’t be guaranteed became a bone of contention. Its adoption, though, is considered a fiscally prudent move.

Initially, all states except West Bengal adopted NPS, but several state governments, such as Rajasthan and Himachal Pradesh later returned to OPS due to popular demand despite the burden on the treasury.

The Bharatiya Janata Party’s (BJP)-led government stuck to its guns on NPS. The announcement of UPS is being seen as a climbdown for the government after the June 4 results, which saw the ruling BJP’s Lok Sabha tally reduced to 240 from 303, apparently due to discontent over issues like NPS, unemployment and price rise.

The new UPS is something in between OPS and NPS. For instance, like OPS, it is a defined benefit plan where the amount of pension is fixed as a percentage of the last salary. On the other hand, like NPS, the employee will need to contribute towards UPS. Let’s find out more about the scheme and how it compares with NPS and OPS.

What Does UPS Offer?

While the scheme’s general outline has been made public, some vital details are yet to be announced and officially notified. The deadline to implement the scheme is April 1, 2025, and will be applied retroactively to allow those interested in switching to UPS. All government employees will get a one-time option to switch to the new plan.

Assured Pension: UPS offers assured pension of up to 50 per cent of an employee’s average salary drawn in the last 12 months before retirement. However, one has to complete 25 years of service to avail of this. If the service period is less than 25 years, but more than 10, the pension will be reduced proportionately.

Family Pension: If the pensioner dies, the family will get an assured pension of 60 per cent of the deceased employee’s pension.

Minimum Pension: UPS provides an assured minimum pension of `10,000 after completing 10 years of service.

Contribution: The employee will contribute 10 per cent of the basic wage plus dearness allowance (DA), and the government 18.5 per cent. The government will review its contribution every three years, but the employee’s part will remain fixed.

Inflation-Beating Pension: This is one of the most attractive features of UPS and makes it similar to OPS. The pension amount will be adjusted for inflation based on the Consumer Price Index.

Lump Sum: Employees will get a lump sum equivalent to one-tenth of their salary for every six months of service, apart from regular pension.

Gratuity: It will be provided in addition to lump sum. However, more clarity is awaited on it.

Clarity Awaited: Although the broader framework of the scheme has been revealed, clarity on specific terms, such as “proportionate pension”, is yet to be explained. For instance, questions about whether the employees’ contributions will be invested and who will manage the investments remain. It is also unclear if the death-cum-retirement gratuity (DCRG) available in NPS and OPS would also be extended to UPS. DCRG is a lump sum amount paid to an employee based on their total length of service at the time of retirement or death.

Says Achyutananda Hazarika, who works at the Assam employment exchange and is the president of the government employees’ association in the state, “Under UPS, if an employee works for over 10 years but less than 25 years, he/she will get proportionate pension with a minimum of `10,000 per month. The word ‘proportionate’ has not been defined. It should be the same as the proportionate calculation in OPS.”

UPS vs OPS

UPS is also under flak by some quarters because though it is similar to OPS, it doesn’t offer the same benefits. To start with, the employee need not make any contribution in OPS unlike UPS (see What Does Old Pension Scheme Offer? and How Do UPS & NPS Compare?).

Says Hazarika: “UPS is silent on the return of employee contribution of 10 per cent. It should be repaid with interest. If not, one will get a 10 per cent higher salary under OPS for the same post and service.”

UPS vs NPS

Unlike NPS, UPS is a defined benefit plan. Payment of a predefined pension amount has been the biggest demand of employees protesting against NPS. Says Gaurav Sharma, 42, a central government employee: “NPS may give me good returns over the long term, but with UPS, I will know exactly how much I will receive. That is more important to me because it offers certainty and peace of mind.”

Still, one can’t reject NPS simply because of the lack of guaranteed benefits. Says Ankit Jain, partner, Ved Jain and Associates, a Delhi-based chartered accountancy firm: “Choosing between NPS and UPS is not straightforward. UPS is a defined benefit scheme with predictable income after retirement. In contrast, NPS helps in building wealth but does not offer guaranteed income.”

Contribution: NPS is a market-linked, contributory scheme overseen by the Pension Fund Regulatory and Development Authority (PFRDA). In NPS, the employee contributes 10 per cent of the salary towards their retirement fund, and the government 14 per cent. In UPS, the government will contribute 18 per cent.

Reach: The reach of NPS is much wider, as it is available for all employees, including those from the private and unorganised sectors. As of now, UPS has been announced only for central government employees. So only 2.3 million people are expected to benefit from it.

Flexibility: NPS has auto and active investment modes and offers flexibility to switch between the two. It also allows lump sum and systematic withdrawals on superannuation, among other key features. But it is still unclear how UPS will work.

Says Sriram Iyer, CEO of HDFC Pension Management, one of the NPS pension fund managers: “NPS is low-cost with numerous features which make it flexible. In the active option, the subscriber can decide the allocation to equity, debt, and government securities based on their risk profile, and change it up to four times a year without any cost or tax implications. The only limitation is that the maximum equity exposure is 75 per cent. A subscriber proficient in investing can adjust their equity allocation downwards as they near their retirement age to reduce risks.”

The auto option is for those who lack the time or expertise to manage their funds. The investing options include conservative, moderate and aggressive modes. The equity exposure is determined based on the option selected and the subscriber’s age. The equity exposure in the portfolio is gradually reduced to protect it against volatility.

Taxation: Experts are not quite sure on the tax relief for UPS contributions. According to Jain, at the time of contribution, employer contribution would not form a part of the income and, therefore, would not be chargeable to tax. He also expects that deduction for employee contribution might not be available, especially in the new tax regime. At the time of receiving pension, the entire amount could be chargeable to tax as pension income for the employee and as family pension for the spouse.

Pension: The pension will vary under NPS, but stay fixed under UPS.

Says Vivek S.G., a certified financial planner and founder of Wealth Crafts, a Securities and Exchange Board of India-registered investment advisor (Sebi-RIA): “UPS provides guaranteed pension with inflation adjustments. It is ideal for those seeking guaranteed pension. Conversely, NPS offers pension based on the market performance of the invested funds. It doesn’t guarantee a fixed amount, but has the potential for higher returns. So, it is suitable for those willing to take risks.”

Family Pension: Jain points to another crucial factor: “If the employee dies during or after service in UPS, the spouse is eligible to receive a family pension at 60 per cent of the amount. However, no pension is payable to their adult children after the spouse’s death. Under NPS, the corpus will be available to the family, be it the spouse, adult children or legal heirs.”

He adds: “Under NPS, one can opt for annuity with return of purchase price. In such a scheme, the subscriber will get annuity for life time and on death of the subscriber, the purchase price will be returned to the nominee of the subscriber.”

Returns: Says Jain, “Since the structure of these two schemes is different, there will be a difference in returns. Under NPS, the employee has control of where the amount is invested, and thus the return will vary based on the contributions. In UPS, the invested funds are irrelevant as the employee would get a guaranteed pension of 50 per cent of the basic pay.”

So, NPS may work better for aggressive investors, while UPS would be more suitable for moderate investors. Additionally, UPS provides a guaranteed lump sum equivalent to one-tenth of the salary for every completed six months of service.

Says Vivek, “The higher upside potential for an aggressive NPS profile could provide a significant cushion, even if returns fall below 10 per cent. Hence, a person with moderate risk appetite may want to switch to UPS, while someone with higher risk tolerance might consider staying with NPS.”

It’s also important to consider taxation when calculating the returns. Besides, returns also depend on how long one stays invested. A younger employee will have a longer time horizon for his/her equity investments to grow.

What To Consider?

Inflation indexation is a major benefit in UPS, as it is guaranteed by the government with assured pension. So, NPS returns need to grow in line with inflation for it to be more attractive. Since 2004, when NPS was first introduced, inflation has ranged between 3.3 per cent and 12 per cent, according to World Bank data, with the highest recording in 2010. NPS returns since inception have averaged 14 per cent from equities, 9.10 per cent from corporate bonds, and 8.84 per cent from government securities, according to PFRDA data as on September 14, 2024. So, overall, NPS returns have outpaced inflation.

It’s natural for most people to opt for assured money when there is uncertainty around. So, there is no easy answer. However, Iyer notes, “If one saves for retirement over a long period, even with higher equity exposure and consistently, the chances of negative returns are almost nil. A Nifty 50 analysis shows that over any 20-year period, the average annualised returns are around 12 per cent. The likelihood of achieving over 10 per cent returns per annum during any 20-year period is about 92 per cent.” So, the chances of facing negative returns are almost negligible.

While there are many like Sharma who would want a guaranteed monthly pension, there are others who may prefer NPS, especially the younger employees who have a long service period ahead and can benefit from the market-linked plan. Jain says, “For those who value security and peace of mind, UPS would be a better option. For those who can manage wealth and understand the intricacies of investing, NPS is the way to go.”

Versha Jain with inputs from Sanjeeb Baruah