NPS Tax Benefits for Salaried Employees: A Complete Guide

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What is NPS Tax Benefits for Salaried Employees?

Individual taxpayers, whether salaried or self-employed, have limited instruments to save income tax. NPS, or the National Pension System, is a popular tax-saving instrument that lets subscribers reduce their tax liabilities. At the same time, it gives them an avenue to accumulate a corpus for their retirement gradually. Furthermore, the tax benefit for the NPS scheme is accessible under both old and new tax regimes.

The NPS scheme offers tax deductions under three Income Tax Act sections – 80CCD (1), 80CCD (1B), and 80CCD (2). Let’s take a look:

Tax Benefit on NPS Scheme under Section 80CCD (1): The section allows a deduction for the taxpayer’s NPS contributions from their gross total income. Both self-employed and salaried taxpayers can claim this deduction. However, the limit is 10% of a salaried individual’s salary (Basic + DA) and 20% of a self-employed individual’s gross total income, subject to the capping of Rs. 1.5 Lakh in a year.
Tax Benefit on NPS Scheme under Section 80CCD (1B): This section allows an additional tax deduction of up to ₹ 50,000 for NPS contributions. This deduction is in addition to the tax deduction available under Section 80CCD (1), enhancing a salaried or self-employed taxpayer’s tax-saving potential.
Tax Benefit on NPS Scheme under Section 80CCD (2): This section covers an employer’s NPS contribution towards their employee’s account. That means only salaried employees are eligible for a tax benefit in the NPS scheme under this section.

The deduction can be at most 14% of the salary for central government employees and 10% for others. Private sector employees can structure their salary such that their employer makes an NPS contribution after deducting it from their overall CTC. The maximum contribution eligible for deduction is Rs. 7.5 Lakh, including contributions to the superannuation and EPF funds.

Tax Benefits Under National Pension Scheme

Apart from the tax benefits under Sections 80CCD (1), 80CCD (1B), and 80CCD (2), NPS subscribers also get to enjoy a few additional benefits, including the following:

Tax Benefit on Partial Withdrawals: Section 10 (12B) allows tax exemption for partial withdrawals of up to 25% of the accumulated corpus.
Tax Benefit on Annuity Purchase: Once the NPS subscriber reaches 60 years of age, they get a tax exemption on annuity purchases under section 80CCD (5). However, the income from the annuity investment is taxable under section 80CCD (3).
Tax Benefit on Lump Sum Withdrawal: Upon retirement or superannuation, the subscriber can withdraw 60% of the accumulated corpus in a lump sum. This lump sum withdrawal is eligible for a tax exemption under Section 10 (12A).
Tax Benefit to Companies and Employers: Employers’ contributions towards their employees’ NPS accounts are tax deductible under Section 36(1)(iv)(a). To claim this deduction, employers can show 10% of their employees’ salary (Basic + DA) as a business expense from their Profit and Loss Account.

What is the Advantage of EEE in NPS?

EEE stands for Exempt-Exempt-Exempt, a tax-exemption scheme that pertains to the deductions under Section 80C. Some tax-saving instruments, including NPS, come under this scheme to save taxes on interests, maturity, and investments. Let’s understand the three E’s in terms of NPS:

Tax-Free Contributions: If you invest in an EEE option like NPS, your contributions will be tax-free, meaning that part of your salary contribution is non-taxable.
Tax-Free Interest: As the corpus grows, it starts gaining interest. The interest gain will also be tax-free under the EEE scheme.
Tax-Free Maturity: At maturity, the amount you withdraw is tax-exempted. That means you do not pay any tax on the principal and cumulative interest.

Under Union Budget 2019, NPS attained the EEE tax exemption status, making it a tax-saving instrument. PPF, ULIP, ELSS, and EPF are other tax-saving instruments under the EEE scheme. However, NPS is the most beneficial regarding flexibility, risk, and returns.

Understand the Benefits of NPS through an Example

Here is an illustrative example showcasing the NPS tax benefit for salaried employees:

According to the PFRDA rules, an NPS subscriber can withdraw 60% of the accumulated corpus in a lump sum and invest the remaining 40% in an annuity. That means if the total corpus in an NPS account is Rs. 10 Lakh, the subscriber can withdraw Rs. 6 Lakh in a lump sum without paying any tax. They can use the remaining Rs. 4 Lakh to purchase an annuity. Although they do not need to pay any tax when purchasing an annuity, the subsequent income received is taxable according to the applicable income tax slab.

Conclusion

The National Pension System is an ideal tax-saving instrument for various financial preferences and goals. It is a robust long-term investment option focused on retirement, offering great benefits regarding tax exemptions. The EEE status of NPS makes it completely tax-free, increasing the scheme returns while saving tax obligations.

Frequently Asked Questions (FAQs)

Q: How much amount of NPS is tax free?

NPS has attained the EEE status, meaning it is completely tax-free. Only the income received from the annuity purchase is taxable.

Q: Is NPS tax-free on maturity?

The 60% lump sum withdrawal at maturity is completely tax-free. The annuity purchase from the remaining 40% is also tax-free. However, the income received from annuity investment is taxable.

Q: How much tax benefit will I get if I invest Rs. 50000 in NPS?

If you invest Rs. 50,000 in NPS, you do not exhaust Rs. 1.5 Lakh limit under Section 80CCE. Therefore, you may claim a deduction of Rs. 2,000 under Section 80CCD (1).

Q: Is NPS good for salaried employees?

NPS is one of the best retirement and tax-saving schemes for salaried employees. The benefits increase significantly if their employer also agrees to contribute to their NPS account.