Jan 29, 2009

PPF vs NSC - How to Decide?

Among all the tax-saving instruments under section (u/s) 80C, ELSS occupies the numero uno position (for details, please read “ELSS: The Best Section 80C Option”) but the ELSS schemes are inherently risky. So, if you’re not comfortable investing in ELSS, you can consider PPF (Public Provident Fund) or NSC (National Saving Certificate). Among the assured return schemes, both PPF and NSC occupy the top slot.

But, the next question is: How to decide which – PPF or NSC – is better among the two? Or, which is the best tax-saving instrument under section 80C among the assured return schemes? Therefore, this article attempts to resolve the classic dilemma: NSCs vs. PPF.
Let’s compare them on various parameters:

PPF vs. NSC – A Comparison

1. Returns
While PPF offers 8% per annum (8.6% from 1Dec 2011), NSC offers 8% per annum (8.4% from 1Dec 2011)compounded half yearly i.e., the effective yield is 8.16% per annum (8.57% from 1 Dec 2011). Not a big difference.

2. Tax on returns
PPF returns are tax-exempt but NSC returns are taxable. Interest accrued on NSC is to be included in your total income every year.

However, you’re also entitled to get the deduction under section 80C for the interest accrued on NSCs, because this notional interest is deemed to be reinvested. So, the net effect is that your section 80C limit gets reduced to that extent because otherwise you would have made investment in other tax-saving instruments to the extent of accrued interest on the NSC. If your section 80C limit already stands exhausted, then your post-tax returns from NSC would become 6.48% (6.81% from 1 Dec 2011)if you fall in 20.6 per cent tax bracket and 5.64% (5.92% from 1 Dec 2011)if your marginal tax rate is 30.9 percent.

3. Whether returns are guaranteed/ fixed
Once you invest in a NSC the interest rate gets locked-in i.e., can’t be changed subsequently, where as in case of PPF the returns are assured but not fixed. In other words, depending upon the interest rate scenario, government can move it either downward or upward, as the economic situation demands.

However, as the interest to your PPF account gets credited every year, the change in interest rate is always prospective and not retrospective.

Let’s see the past changes in the PPF interest rates:

From 1986-87 to 1999-00 -> 12.00%
2000-01 -> 11.00%
2001-02 -> 9.50%
2002-03 -> 9.00%
2003-04 to Nov 2011 -> 8.00%
Since Dec 2011 -> 8.60%
Now, let’s see the past changes in NSC interest rates:

Mar’01 to Feb’02 -> 9.5%
Mar’02 to Feb’03 -> 9.0%
Mar’03 to Nov'11 -> 8.0%

Dec'11 onwards -> 8.4%

From the above mentioned changes in PPF and NSC interest rates, we notice that PPF and NSC interest rates are changed simultaneously, so that both are at par (with a slight difference due to half yearly compounding in case of NSCs).For the first time the revised interest rate on PPF applicable from Dec 2011 is slightly better than NSC (to compensate for the half-yearly compounding in case of NSC)

However, what makes the yield differ is the fact that in case of NSC’s revised rates applies only for new purchases, while for PPF new interest rates apply to all accounts, both new and existing. For instance, let’s say you invested Rs 1000 each in both PPF and NSC in March 2001. Now, while for NSC you would have received interest @ 9.5% per annum (compounded half-yearly) for all the 6 years of it’s duration, your PPF account would be credited with interest @ 9.5% for only the year 2001-02 and for subsequent years reduced interest rate would apply (i.e., 9% for 02-03 and 8% since 03-04 onwards)(i.e., 9.0% for 2002-03, 8.0% for 03-04 up to Nov'11 and 8.4% from Dec'11 onwards).

UPDATE [Feb 2012]: From April 2012 onwards, Govt will align the rate of interest on all small saving schemes with the rates of government securities of the similar maturities with suitable spreads but the rates will remain fixed and not floating in case of all instruments except PPF. In other words, in case of NSC, rates prevailing at the time of investment will remain same till the maturity; the revised rates will be applicable only on new purchases of NSC.

4. Liquidity
While the duration of NSC is 6 year (5 year from Dec'11), PPF carries a lock-in period of 15 years. Besides, PPF premature account closure is not permissible except in case of death. Although partial withdrawals are allowed from the PPF account from seventh year onwards, the actual amount depends on the balance in the account in earlier years. Thus, NSCs offer better liquidity than PPF.

5. One time or regular investment
While NSC requires one time investment, PPF requires regular investment. NSC is the form of a certificate but PPF is in the form of an account and to keep it active, you’ve to make regular investment – a minimum amount of Rs 500 has to be deposited every year to keep the account active.

So, except the parameter of ‘taxability of returns’, on all other counts the NSCs score over PPF. However, this singular factor is big enough to tilt the balance in favour of PPF. Let’s see:

1. If the tax-saving limit of Rs 1 lakh under section 80C remains under-utilized year after year, then NSC, no-doubt, is the best option for you because in that case net tax effect (of NSCs accrued interest) is zero. In other words, in such a case, NSCs returns also become tax-free.

2. If your existing tax saving investments exceeds the limit of Rs 1 lakh (or expected to cross the Rs one lakh mark, in the near future) as specified under section 80C, then it would have direct impact on your post-tax returns from NSCs ; for example, it becomes 5.64% (5.92% from Dec 2011)if you fall in the 30.9% tax bracket. In such a case it is better to opt for PPF. However, even in such a case you should opt for NSC if your investment horizon is medium term (i.e., you’re going to require the money, say, after 6 or 7 years for your spending needs).
No doubt, the liquidity factor and uncertainty associated with the PPF interest rate are two major drawbacks.

However, if you just change your perception and give it another look, lack of liquidity should not be a hindrance. Perhaps, it’s a blessing in disguise. Why? Because even if you get back your money, say, after 3 years or 6 years, won’t you invest it some where else or spend it on some worthless things.

So, if you invest your funds for different time duration according to your financial plan/ needs and invest only so much in PPF which you can spare for long term, 15 years lock-in period should not be a constraint. In other words, for the purpose of saving money for long term goals, like education and marriage of children or to save for retirement – which you must – PPF is the best debt instrument after EPF (Employees Provident Fund).

Besides, in emergency cases, if you require the funds before the maturity, the option of making partial withdrawals, or borrowing against your PPF account, is always available.


As regards the uncertainty associated with the PPF interest rate, we can observe that since 2003, there has not been any change in the PPF interest rates. Even if there is a change in near future, in my view, it can’t go beyond +/- 1%.as per the recent changes made by the government in the small saving schemes, the interest rate on PPF will be announced every year keeping in view the interest rate scenario, but nothing to worry about because PPF interest rate will be more or less aligned with EPF interest rate (i.e. there won’t be much fluctuation).

I hope the above discussion is helpful to you in resolving the dilemma between PPF and NSC. However, if you’ve any further suggestion or questions, please feel free to leave a comment.


UPDATE (Feb’ 2012): A new 10-year NSC with an interest rate of 8.7% (compounded half-yearly) has also been introduced from Dec 2011. The effective interest rate is 8.89% and Rs 1000 will become Rs 2,343/- after 10 years.

Finally, if you've decided to invest in PPF, please read "How to Invest in PPF-10 Practical Tips".

Also see:

  1. Making the Most of Section 80C - 10 Smart Tips
  2. Ulips vs Traditional Insurance Plans: Which is Better?
  3. Direct Stock Investment vs Mutual Funds
  4. Section 80C Tax Saving Options
  5. Claiming HRA Tax Exemption - Tips & FAQs
  6. Best Ulips based on IRR

17 comments:

  1. Very nice!

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  2. AnonymousJuly 21, 2009

    Very informative...really good.

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  3. EXCELLENT TOPIC AND NICELY EXPLAINED

    Sriniwas Banglaore

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  4. Very nice suggestion.

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  5. excellent...same as my thoughts..good for new investors

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  6. excellent comparision...thanks

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  7. This is what I was looking for.... Thanks.

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  8. This is really good. Simplifies things a lot. Thanks

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  9. I have searched for it in many sites but never got a better explanation like here. All the points are clearly explained.

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  10. Good article. But I wanted to know what are the denominations for NSC certificates? Can one person take more than one certificate?

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  11. Very well written, thanks for the detailed analysis. Appreciate the fact that there are no generalizations and no glossing over the returns and tax calculations!

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  12. Hi,

    I would like to know that how DTC affect the NSC investment? will this option be abolished from Section 80C? or is there anything like EET will come into effect for this investment? Please help me regarding this because i have invested jointly in NSC with my mother's name so i would like to know that will this income be taxable to my hand at the time of maturity or not?

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  13. AnonymousJuly 24, 2010

    Excellent Comparison that helps people like us decide on where to invest.Thank you very much.

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  14. Hello Fisher:

    Over past 3-4 hours, I read most of your articles with keen interest and made notes. However, I need some clarification:

    I read here in your column: "PPF returns are tax-exempt but NSC returns are taxable. Interest accrued on NSC is to be included in your total income every year. However, you’re also entitled to get the deduction under section 80C for the interest accrued on NSCs, because this notional interest is deemed to be reinvested".

    I also read at http://www.rediff.com/getahead/2006/dec/14nsc.htm "Generally, it is advisable to declare accrued interest on NSC on a yearly basis. So, over the period of six years, you could declare the interest income for each year. In such cases, it does not amount to a huge sum.
    If you do not declare the interest on an accrual basis, then the entire interest earned (difference between the amount deposited and the maturity value) would accumulate in the year of maturity. You could then claim it under Section 80C but it would be a huge amount and would be taxable at the current applicable tax rate".

    My questions are:

    You did not mention that NSC accrued interest can―alternatively―be declared as the income of the year in which NSC matured.

    If you confirm this, then please clarify if the whole of the accrued interests be considered as if reinvested under 80C during the year in which it matured.

    In other words, is it permissible that 6,010 accrued interest on 10,000 NSC can be treated as the income of the seventh year, as well as, the same amount of 6,010 can be claimed as 80C reinvestment in the seventh year?

    I used the term seventh year because 16,010 becomes available to the assessee after completion of sixth year, meaning at the very beginning of seventh year. Is it correct to say so?

    Thank you.

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  15. This is really very informative to me ... I really appreciate the way its been written..Now I am clear which way I should invest.
    A big Thanks

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