Important NPS Tax Benefits: Every year all government employees have to pay income tax according to the total salary received in a financial year.
But when it comes to NPS Tax Benefits , it differs in some ways from the Tax Benefits available in OPS (Old Pension Scheme).
As you would know, it is now mandatory for all government employees except the armed forces to register under the New Pension Scheme. It is a pension scheme as well as an investment scheme for government employees.
There are two types of accounts under NPS – Tier-I and Tier-II. While Tier-I account is compulsory for all government employees, the Tier-II is a voluntary account.
Earlier, government employees could avail NPS tax benefits only on the basis of the contribution made in Tier-I.
But now the government has introduced a new income tax saving scheme in which a government employee can take NPS tax benefits by investing in Tier-II as well. But its lock-in period will be three years.
In this article, we are going to tell which are the important NPS Tax Benefits to government employees coming under the New Pension Scheme.
We will explain briefly the NPS tax benefits on salary in each financial year as well as those tax benefits which are available on partial withdrawal and maturity by the employee.
So let’s see what are the important NPS Tax Benefits.
Important Tax Benefits under NPS
Tax Exemption on Tier-I Account:
Any government employee covered under NPS has to make mandatory contribution to Tier-I account.
At present this contribution is equal to 10% of the sum of Basic Pay and Dearness Allowance of the employee.
Following are the NPS tax benefits available on contribution to Tier-I account-
Tax exemption under section 80CCD (1) on contribution made by the employee in Tier-I
According to Section 80CCD (1) of the Income-tax Act, 1961, NPS tax benefits are available on the contribution made by the employee to the Tier-I account.
But this exemption can be within the overall limit of tax exemption available under Section 80C of Income Tax only within Rs.1.50 lakh.
As already mentioned, the contribution made by the employee in Tier-I is equal to 10% of the sum of his Basic Pay and DA.
If this contribution is within the tax exemption limit of Rs.1.50 lakh under Section 80C, then it becomes completely tax free.
Tax exemption under section 80CCD (2) on contribution made by the government in Tier-I
Contribution is also made by the government to the NPS account of the employee, which is currently 14% of the sum of Basic Pay and DA of the employee.
This contribution made by the government to the NPS account of the employee comes under NPS Tax Benefits and this entire contribution is tax free.
Additional exemption under section 80CCD(1B)
A government employee can also get NPS tax benefits by making additional investments in Tier-I.
Suppose an employee has achieved the maximum limit of Rs.1.5 lakh available under section 1861 of the Income Tax Act, then, in addition to this tax exemption, he is also eligible for tax exemption of up to Rs.50 thousand under section 80CCD(1B). can claim.
In this way, that employee can get NPS tax benefits up to Rs.2 lakh in aggregate under Section 80CCD(1) and Section 80CCD(1B).
Benefit of another new account under Tier-II
By the way, under Tier-II, the government employee does not get any kind of NPS Tax Benefits.
That is, if a government employee voluntarily opens a Tier-II account in NPS, then he cannot claim any tax exemption on the money invested in it.
But in August 2020, PFRDA announced a new Income Tax Saving Scheme related to Tier-II account which can be availed by only Central Government employees.
The Income Tax Saving Benefit available under this scheme will be in addition to the Income Tax Saving Benefit available under Tier-I.
According to this new scheme, central government employees can deposit funds separately in Tier-II but its lock-in period will be 3 years.
No withdrawal will be allowed to the employee during this lock-in period of three years. However, if the employee dies due to any reason, the nominee/legal heir can withdraw the money deposited in that account.
The money deposited in this account can be included in the exemption under income tax (maximum Rs.1.5 lakh).
The above NPS Tax Benefits are such that are applicable on the salary received during a financial year and can be availed by the employees covered under NPS normally.
Secondly, all these NPS Tax Benefits are available on investing in NPS N.
But some NPS tax benefits are also available on withdrawal from NPS, that is, when an employee withdraws money from his NPS account, then the entire amount is not taxed and thus some tax benefits are available.
So let’s see what are the NPS Tax Benefits that are available on withdrawal.
Partial withdrawal-
Before 2017 any partial withdrawal from NPS was taxable. But in the 2017 budget, the government provided tax exemption on partial withdrawal from NPS and it became effective from 1st April 2017.
Now if a government employee makes partial withdrawal of up to 25% of the contribution made in NPS, then no tax will be levied on it.
But the following are the conditions for this partial withdrawal-
- It has been at least 3 years since the employee joined the NPS system.
- This partial withdrawal can be done only for certain purposes, such as-
i) For higher education of children
ii) For marriage of children
iii) For construction/purchase of residential house or flat jointly in the name of himself or his spouse. Provided that if the employee has a residential house or flat in his own name, individually or jointly, other than the ancestral property, then no withdrawal shall be allowed under these regulations.
iv) For treatment of any specific illness of the employee or his/her spouse, their children including legally adopted children and dependent parents. - The employee can make partial withdrawals up to a maximum of three times during the entire period of contribution to NPS.
But keep in mind that this partial withdrawal up to 25% is the contribution made by the employee and not the total amount deposited in the fund.
For example, suppose an employee has contributed Rs.3 lakhs in Tier-I account and Rs.4 lakhs by the government in 5 years. Thus the total amount deposited in the fund will be Rs.7 lakhs. But the employee can only make partial withdrawal up to 25% of his contribution i.e. Rs.3 lakhs. In this way he can withdraw maximum 75 thousand rupees.
On maturity amount at the time of retirement
A government employee can make a lump sum withdrawal of 60% of the funds in his Tier-I account at the time of his retirement which is completely tax free. This tax exemption has come into effect from 1st April 2019.
The remaining 40% amount has to be used by the employee to buy Annuities and this is also tax free.
Government servants can buy these annuities from any Annuity Service Provider which is registered by IRDA (Insurance Regulatory and Development Authority and empaneled by PFRDA).
New Tax Regime and NPS Tax Benefits:
Under the Budget 2020, the government introduced a new Income Tax Slab System.
According to its new tax law, if an NPS employee chooses this new tax slab system, then he does not get the benefit of income tax exemption under section 80CCD (1B) or 80CCD (1) and 80C of income tax.
But it is a matter of relief that even after choosing this new tax slab system, he will get NPS tax benefits under section 80CCD (2) on the money contributed by the government in his NPS account.
Summary
- According to a new income tax saving scheme of the government, a government employee can also take NPS tax benefits on money invested in Tier-II. But its lock-in period will be three years.
- In Tier-I the contribution made by the employee is 10% of the sum of his Basic Pay and DA and the contribution made by the Government is 14% of the sum of his Basic Pay and DA.
- Tax benefit under section 80CCD (1) The overall limit of tax benefit available under section 80C can be within Rs.1.50 lakhs only.
- Under section 80CCD(1B), a government employee can claim an additional tax exemption of up to Rs.50,000/-.
- A government employee can get NPS tax benefits up to Rs.2 lakhs in aggregate under Section 80CCD(1) and Section 80CCD(1B).
- According to section 80CCD (2), the contribution made by the government in Tier-I of the employee is completely exempt from tax.
- If a government employee makes partial withdrawal of up to 25% of the contribution made to NPS, subject to certain conditions, then no tax will be levied on it.
- A Government servant at the time of retirement can make a lump sum withdrawal of 60% of the funds in his Tier-I account which is completely tax free.
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Very useful information in simple terms to understand in one go. Thank you sir.
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