NPS Tier 2 vs Mutual Funds

NPS Tier 2 invests in individual assets like stocks and bonds. Mutual funds pool investor money into these assets.
NPS Tier 2 vs Mutual Funds
3 min

NPS Tier 2 account is an optional savings account tailored for retirement savings, while mutual funds are investment vehicles that offer extensive investment options for varied investment goals.

Several investors seeking to maximise returns find themselves mulling the MF vs NPS Tier 2 debate quite frequently. To help you make an informed choice, we discuss the NPS Tier 2 vs mutual fund dilemma in detail below.

What is NPS Tier 2?

An NPS Tier 2 account is a voluntary savings account open to Tier 1 subscribers. Tier 2 accounts can be activated with a minimum investment of Rs. 1,000. Funds can be deposited and withdrawn at your convenience. There are no exit fees or minimum balance requirements pertaining to Tier 2 accounts. However, no tax benefits are available for investments made in Tier 2 accounts.

Like Tier 1 accounts, you can choose from the Active and Auto Choice options to manage asset allocation. Under the Active Choice option, you can construct a portfolio based on your market knowledge and risk appetite. However, your portfolio’s equity exposure can be a maximum of 75% up to the age of 50. Thereafter, equity exposure decreases by 2.5% every year, reaching 50% at the age of 60 years. The Auto Choice option auto-allocates your investment based on your age and the selected investment approach (aggressive, moderate, or conservative).

What are mutual funds?

Mutual funds are a type of investment instrument that pools money from investors with a shared investment objective. These pooled funds are invested under the guidance of professional fund managers into a variety of assets like stocks, bonds, and other securities. The fund’s per unit value is based on its NAV (Net Asset Value) which is calculated daily. You can buy or redeem MF units at the current NAV.

Mutual funds are regulated by SEBI and offer investors with different risk appetites an easy way to diversify their investments. Since investments can be started on an SIP basis with a nominal amount of just Rs. 100, mutual funds offer the benefit of investing funds in a professionally managed diversified basket of securities without requiring a sizable deposit. Read more about, What is a mutual fund.

Differences between NPS Tier 2 and mutual funds

Let’s assess the NPS Tier 2 vs. mutual funds debate in detail:


NPS Tier 2

Mutual Funds


Retirement savings

Wealth creation


Voluntary savings account linked to a pension product

Investment product

Regulating authority



Minimum investment

You need to make a minimum initial contribution of Rs. 1,000

You can start MF SIP investments with a nominal contribution of Rs. 100

Asset allocation

The Active Choice option allows you to tailor your portfolio according to your risk tolerance levels and invest in government bonds, equity, corporate debt, and alternative funds. The Auto Choice option is best for those with limited time and knowledge about portfolio management. Your contributions are invested in equity, government bonds, and corporate debt based on your age. Based on your risk appetite, you can choose from Aggressive, Moderate, and Conservative options.

Equity MFs invest at least 65% of their assets in equity stocks, while debt funds invest the corpus in fixed-income assets like bonds. Hybrid funds include both equity and debt investments.

Lock-in period

No lock-in period.

Generally, MFs do not have a mandatory lock-in period. However, exiting the fund before a certain time period (usually 1 year) requires exit load payment. Only ELSS mutual funds impose a 3-year lock-in period on SIP and lump-sum investments.

Tax benefits on contributions

No tax benefits on NPS Tier 2 contributions

Contributions to ELSS mutual funds qualify for tax deductions of up to Rs. 1.5 Lakhs u/s 80(C)

Tax benefits on withdrawals and maturity

Withdrawals are added to your total income and taxed as per the applicable income tax slab

Capital gains from MFs are taxed according to the fund type and holding period. A short-term capital gains tax of 15% is applicable on equity funds held for less than a year. If the holding period is more than a year, gains of up to Rs 1 Lakh are tax-free. From April 1st 2023 onwards, all capital gains from debt funds are taxed as per the applicable income tax slab. Taxation on hybrid funds is dependent on the portfolio’s equity exposure.

Exit load

Withdrawal of funds without exit loads

Exit loads apply if funds are withdrawn before the end of a stipulated term (generally 1 year)

Ever wondered how much your mutual fund could grow over time? Discover potential returns with our SIP return calculator and Lumpsum calculator. Estimate your investment's future value now!

Which is better between NPS Tier 2 vs. mutual funds?

In a mutual fund vs. NPS Tier 2 head-to-head comparison, both present certain pros and cons. For NPS investments, the equity exposure of your portfolio is determined by age. Even under the Active Choice option, equity exposure is capped at up to 75% and progressively lowered with age. This conservative approach can result in lower returns than equity-oriented MFs. Alternatively, for MF investments, you can choose mutual fund schemes and decide on the equity exposure of your portfolio based on your investment goals and risk appetite. You can enjoy a greater degree of flexibility with MF investments, investing in different types of funds like equity, hybrid, small-cap, mid-cap, or sector-specific MFs. You can stay invested in the funds for as long as you wish and earn returns. In fact, pure equity funds have a higher potential for gains as compared to NPS Tier 2 accounts. However, when it comes to investment costs, NPS Tier 2 accounts edge over MFs where the expense ratio is much higher than the applicable NPS fund management fees.

High-return mutual fund categories for smart investing

Equity Mutual Funds Hybrid Mutual Funds Debt Mutual Funds
Tax Saving Mutual Funds NFO Mutual Funds Multi Cap Mutual Funds


Who should invest in NPS Tier 2 over mutual funds?

In the NPS Tier 2 vs. mutual funds debate, you should choose an NPS Tier 2 account if:

  • You are curating a retirement plan and already have an NPS Tier 1 account.
  • You need a liquid investment account without extra annual maintenance charges, minimum balance requirements, and exit loads.
  • You prefer a low-cost account with nominal fund management charges (expense ratio).
  • You have limited market knowledge and require auto asset allocation (Auto Choice option).

Who should invest in mutual funds over NPS Tier 2?

You should opt for mutual funds over NPS Tier 2 accounts if:

  • You are willing to shoulder a higher risk for potentially higher returns.
  • You are looking for flexible investment options and a portfolio without equity exposure caps.
  • You wish to make goal-based investments and select from different fund options.
  • You prefer a tax-efficient investment avenue (only ELSS funds).


In conclusion, when it comes to the mutual funds vs. NPS Tier 2 debate, you cannot use a one-size-fits-all approach. Each investor has different investment goals, time horizons, risk appetites, and investment capacities. If you are looking for secured and less volatile retirement planning with no extra annual charges, Tier 2 accounts may be the better choice. Alternatively, if you don’t mind shouldering higher risks for potentially higher returns, equity-focused MFs may be the better option.

You can start your MF investments on the Bajaj Finserv Mutual Fund Platform. On this digital platform, you can compare mutual funds and choose from 1000+ fund options to tailor a portfolio that fits your financial goals and risk appetite.

Essential tools for mutual fund investors

Mutual Fund Calculator Lumpsum Calculator Mutual Funds SIP Calculator Step Up SIP Calculator
SBI SIP Calculator HDFC SIP Calculator Nippon India SIP Calculator ABSL SIP Calculator
Tata SIP Calculator BOI SIP Calculator Motilal Oswal Mutual Fund SIP Calculator Kotak Bank SIP Calculator

Frequently asked questions

Is NPS tier 2 better than MF?
The significantly lower expense ratios, unlimited withdrawal clause, and diversified investment options make NPS Tier 2 accounts better than MF for those planning for retirement.
What is the disadvantage of NPS Tier 2?
NPS Tier 2 accounts do not offer any tax benefits to regular subscribers. Tax benefits are only available to government employees, subject to a minimum lock-in period of 3 years.
Can I invest only in Tier 2 NPS?
No, NPs Tier 2 accounts are open to subscribers with an existing Tier 1 account. In other words, you require a mandatory Tier 1 account to invest in the optional Tier 2 account.
What is the return rate for NPS Tier 2?
As of February 2024, NPS Tier 2 accounts have averaged returns of 14.8% (Equity), 8.06% (Corporate Bonds), and 8.59% (Government Bonds) since their inception.
What is the lock-in period for NPS Tier 2?
NPS Tier 2 accounts do not come with a mandatory lock-in period.
Is it mandatory to invest in NPS Tier 2 every year?
No. There is no mandatory annual contribution mandate for Tier 2 accounts.
Which is better, NPS Tier 2 or SIP?
Choosing between the two depends on your investment objectives and goals. If you are seeking a long-term investment option with low fees, NPS Tier 2 accounts may be a better option. Alternatively, if you are looking for investment flexibility, more investment options, and potentially higher returns, mutual fund SIPs may be better.
Is NPS Tier 2 better than hybrid mutual funds?
Tier 2 accounts are perfect if you need easy liquidity against low investment costs. However, if you desire more investment options and better returns.
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Bajaj Finance Limited (“BFL”) is an NBFC offering loans, deposits and third-party wealth management products.

The information contained in this article is for general informational purposes only and does not constitute any financial advice. The content herein has been prepared by BFL on the basis of publicly available information, internal sources and other third-party sources believed to be reliable. However, BFL cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. 

This information should not be relied upon as the sole basis for any investment decisions. Hence, User is advised to independently exercise diligence by verifying complete information, including by consulting independent financial experts, if any, and the investor shall be the sole owner of the decision taken, if any, about suitability of the same.