NPS, or National Pension System, is one of the popular retirement solutions in India. It helps you to earn market-linked returns. With an NPS, you can build a substantial corpus for your retirement by contributing regularly. Not only does it allow you to build a retirement corpus, but it also comes with many tax benefits. In this blog, we will dive deeper into understanding the NPS tax benefits.
Understanding NPS Tax Benefits
NPS offers investors two types of accounts to invest in Tier I and Tier II . Tier I is a mandatory account for all NPS investors while Tier II is voluntary. Let’s understand both accounts and their tax benefits.
NPS Tier I Account & Tax Benefits
Open NPS Tier I account is a mandatory account for all NPS investors. Tier I investments are eligible for NPS deductions or NPS tax saving benefits under Section 80 CCD (1), Section 80CCD (1B) and Section 80CCD (2) of the Income Tax Act, 1961.
NPS Tier 1 tax benefits are as follows:
| Income Tax Section for NPS Deduction | Description |
| 80CCD (1) | Self-contribution of up to Rs. 1.5 lakh can be claimed as part of the NPS tax deduction. |
| 80CCD (2) | This benefit can be availed for the salaried individual only. Government employees can claim 14% and Private sector employees claim 10% percent of their salary under this section. |
| 80CCD (1B) | Additional deductions of up to Rs. 50,000 can be claimed for self-contribution. |
- Tax Benefits under Section 80C: The National Pension System (NPS) is one of the listed investment options where you can allocate your funds to avail of tax benefits under Section 80C. The deduction limit for this section is Rs. 1.5 lakhs. Should you choose, you have the option to invest the entire amount in NPS and claim the corresponding deduction.
- Tax Benefits under Section 80CCD (1B): NPS investors enjoy an additional tax benefit through Section 80CCD (1B). Under this provision, you are eligible to claim tax deductions on NPS investments of up to Rs. 50,000, which is separate from the deduction available under Section 80C.
In essence, by investing in NPS, you can claim tax deductions of up to Rs. 2 lakhs in total – Rs. 1.5 lakhs under Section 80C and an additional Rs. 50,000 under Section 80CCD (1B). This means that if you belong to the 30% tax bracket, you could potentially save Rs. 62,400 in taxes. - Tax Benefits under Section 80CCD (2): Contributions by the employer to NPS can also be claimed by salaried individuals under this NPS deduction section. For government employees, the cap is at 14% of their salary, while privately employed individuals can claim up to 10% of their salary (basic + dearness allowance) under this section.
NPS Tier 2 Account Tax Benefits
The NPS Tier 2 account is a voluntary account in which you can make regular investments and withdrawals. There are no restrictions on making withdrawals from this account. But to open a Tier 2 account, you must have a Tier 1 account. Currently, there are no tax benefits in Tier 2 account.
Other Tax Benefits Under National Pension Scheme
Apart from the annual tax deductions that can be claimed under Section 80C and Section 80CCD (1B), investors can claim a few additional NPS deduction benefits in some cases. Here are the otherNPS tax-saving benefits:
NPS Tax Benefit On Partial Withdrawal:
After 3 years of investment, an investor can withdraw up to 25% of the corpus from the NPS Tier I account for specific purposes such as medical expenses, children’s higher education, marriage, etc. This NPS withdrawal is exempt from tax.
NPS Tax Benefit On Returns:
Returns from NPS Tier I account are not taxable until maturity. This means that any market-linked returns you earn will not be subject to tax.
NPS Tax Benefit On Maturity:
Once an investor turns 60, up to 60% of the corpus can be withdrawn in a lump sum. The remaining 40% has to be used to purchase annuities. Both of these are exempt from tax. For instance, if an investor has a total corpus of ₹20,00,000 at 60, up to ₹12,00,000 can be withdrawn. The remaining ₹8,00,000, is used to buy annuities which will pay retirement pension.
NPS Tax Benefit on Lumpsum Withdrawal:
After attaining 60 years of age, you can withdraw 60% of the total accumulated corpus as lumpsum withdrawal. This lump sum withdrawal is totally exempt for tax purposes under Section 10(12A).
NPS Tax Benefit on Purchase of Annuity:
At maturity, you will have to allocate 40% of your total NPS corpus in annuities. This amount is also exempt for tax purposes under Section 80CCD(5). However, annuity income earned through the annuity plan is taxable as per your income tax slab.
What is the Advantage of EEE in NPS?
EEE or exempt-exempt-exempt is an attractive tax status for financial instruments in India. To qualify as an EEE, an investment must:
Qualify for tax deduction from the annual salary or income to the extent of the investment amount
Have tax-free gains or interest on the investment amount
Not be taxable upon maturity
Prior to the 2019 Union Budget, NPS investments had an EET tax status. This meant that a part of the maturity amount, up to 20% of the corpus, was subject to taxation on lumpsum withdrawal. However, in the 2019 Union Budget, Finance Minister Nirmala Sitharaman made the entire 60% corpus withdrawal tax-free.
Since NPS tax exemptions now extend to the investment amount, growth of corpus as well as maturity amount (to an extent), it enjoys the EEE (exempt-exempt-exempt) status in India. It is one among a select few financial products that enjoy this benefit.
Tax Benefit for Employees
NPS is one of the best retirement solutions, as it gives you market-linked returns and offers you multiple tax benefits. Especially salaried employees can avail of significant tax benefits by investing in the NPS scheme. Here are some NPS tax benefits for salaried employees:
| Description | Maximum Limit | Income Tax Section | Total Tax Saved |
Deduction for employee contribution | Rs 1.5 lakh | 80CCD (1) | Rs 46,800 |
Deduction for employer’s contribution | 10% of the basic salary | 80CCD (2) | Depends on the basic salary |
Self contribution towards NPS | Rs 50,000 | 80CCD (1B) | Rs 15,600 |
*for individuals in the highest income tax bracket of 30%
Tax benefits to employees on self-contribution
For self-contribution in the NPS scheme, employees can claim the following deductions:
- Employees can claim tax deductions of upto Rs 1.5 lakh under Section 80CCD(1). But it should be within the overall limit of Rs 1.5 lakh under Section 80C.
- Additional deduction upto Rs 50,000 under Section 80CCD(1B), over and above the Rs 1.5 lakh limit under Section 80CCE.
Tax benefits to employees on Employer’s contribution
The employer’s contributions to the NPS also qualify for tax benefits under Section 80CCD(2). The amount of deduction is limited to 10% of the salary (Basic and Dearness allowance) for private sector employees. For central government employees, it is 14% of their salary.
Tax benefits to self-employed
If you are self-employed and contribute to the NPS scheme, you can also claim NPS tax exemption for your own contribution. Here are the available exemptions:
- You can claim a deduction of upto 20% of gross income under Section 80CCD(1) but within the overall limit of Rs 1.5 lakh under Section 80CCE.
- Additional tax deductions of upto Rs 50,000 under Section 80CCD(1B). This deduction is over and above the limit of Rs 1.5 of Section 80CCE.
As per Section 36(1)(iv)(a), employers contributing to NPS accounts of employees can claim these contributions as business expenses in profit & loss accounts. The maximum amount that can be claimed is upto 10% of the salary (Basic + DA).
To calculate the total amount of tax you will save under sections 80(C) and 80(CCD), use an online NPS Calculator.
Understand the Benefits of NPS through an Example
Suppose a corporate employee earns Rs 6 lakh as the basic salary and another Rs 3 lakh as Dearness Allowance. So he can claim Rs 90,000 (10 percent of Basic + DA) on his employer’s contribution. Besides, if he adds the deductions under Section 80C and Section 80CCD (1B), he can claim deductions up to Rs 2.9 lakh.
| NPS Tax Deductions For A Salaried Individual | |
| Basic Salary | ₹ 6 lakh |
| DA | ₹ 3 lakh |
| Deductions under 80C | ₹ 1.5 lakh |
| Deductions under Section 80CCD (1B) | ₹ 50,000 |
| Deductions under Section 80CCD (2) (10% of Salary+DA) | ₹ 90,000 |
| Total deduction that can be claimed | ₹ 2.9 lakh |
Conclusion
NPS with its tax benefits can help you reduce your taxable income by quite a bit. However, it shouldn’t be the only reason for you to invest in it. It is a great product to build a corpus for your retirement thanks to its low cost and flexibility. So invest for the right reason.
Frequently Asked Questions
How much should I invest in NPS for tax benefit?
NPS account tax benefits extend up to ₹2,00,000 per annum for each individual. As an investor, investing this amount will make you eligible to claim ₹1,50,000 tax deduction under Section 80C and an additional ₹50,000 under Section 80CCD(1B). While there is no limit on the NPS maximum contribution per year, any investment above this threshold will not be eligible for tax deductions.
Is NPS available only for salaried individuals?
NPS accounts can also be opened by self-employed individuals to avail NPS tax benefit and secure their retirement at the same time.
What is the NPS tax benefit on lump sum withdrawal?
Lumpsum withdrawal from NPS account at age 60 or superannuation are exempt from income tax under section 10(12A).
Is it a good idea to invest in NPS if I fall under the lowest tax bracket?
NPS is a great instrument that can help with retirement planning. It is one of the cheapest retirement plans available in the market and can be availed by anyone who is an Indian citizen above 18 years. For individuals in the highest tax bracket, NPS is especially beneficial. The tax deduction of up to ₹2,00,000 per annum can be attractive.
Is NPS tax-free on maturity?
Yes. Up to 60% of the corpus at maturity can be withdrawn directly into your bank account without any taxes. The remaining tax-free 40% invested in annuities is also exempt from tax.
Is the annuity amount tax-free?
The amount invested in annuities is tax-free. However, annuity income, or the pension earned post retirement, is subject to tax at the applicable income tax rate of the individual.
What is the tax benefit in NPS on purchasing the Annuity?
Once you reach age 60, you can withdraw 60% of your total corpus, and the other 40% must be invested in an annuity plan offered by NPS. The amount invested in buying the annuity plan is exempt for tax purposes.
What are the tax benefits of NPS to Corporates/ Employers?
As a part of NPS tax benefits, Employers contributing towards the NPS account of employees are eligible to claim the deduction. As per section 36(1)(iv)(a), they can claim a deduction upto 10% of salary (Basic + DA) as a business expense.
What are the tax benefits of NPS to employees on Employer contribution?
As per Section 80 CCD(2), if your employer is also contributing to your NPS account, then you can claim a tax deduction of upto 0% of your salary (Basic + DA). If government employees invtest in NPS then this limit is 14% for them.
This deduction is over the above limit of Rs 1.5 lakh under Section 80CCD(1) and Rs 50,000 under Section 80CCD(1B).
What are NPS tax benefits to employees on self-contribution?
Employees can claim tax deductions upto Rs 1.5 lakh under Section 80CCD(1) for NPS contribution. Also, they can claim additional tax deductions of upto Rs 50,000 under Section 80CCD(1B).
What investment proof will be to avail of the tax benefit under NPS?
As investment proof, you can submit a Transaction Statement to claim a deduction for NPS contribution. Otherwise, you can download “Statement of Voluntary Contribution” from the NPS portal.
What are other tax benefits under NPS apart from available u/s 80CCD?
NPS tax benefits apart from Section 80CCD include:
– Partial withdrawals made under the NPS account are fully exempt.
– Lumpsum withdrawal at age 60 is fully exempt.
– 40% of the total NPS used to buy annuity plans is also fully exempt from taxes.
What are the tax benefits on investments under a Tier II account?
There are no tax benefits under the Tier II account.
What is the Exclusive Tax Benefit to all NPS Subscribers u/s 80CCD (1B)?
Under Section 80CCD(1B), you can claim an additional tax deduction of upto Rs 50,000 for NPS contribution. This limit is over and above the limit of Rs 1.5 lakh under Section 80CCD(1).
