NPS Tax Benefits: How to Avail NPS Income Tax Benefits

Want to avail of NPS tax benefits but don’t know exactly how valuable it can be?

Through this resource, you will be able to understand what the tax benefits of NPS are. Let’s get started!

Firstly, NPS is known as a “Triple E” investment instrument. This term means it fulfils the following three conditions:

Any income earned on the investment is exempt from taxes
Maturity proceeds are exempt from taxes
The investment amount itself qualifies for tax exemption (as under Section 80 CCD)

However, there is a small catch in point 2. While 60% of the maturity amount is tax-free, 40% of the matured corpus must be used to buy annuities. Interest on these annuities provides a regular income. This interest amount is added to your taxable income and taxed.

Except for this, the NPS tax benefits are significant. Moreover, people are also curious about whether the employer contribution to NPS is taxable or not. So, dive in and find out!

What Are the Income Tax Section Acts under NPS?

Section 80C of the Income Tax Act gathers all the rules about “general deductions related to certain payments.” Thus, it elaborates on all tax deduction rules applicable for specific payments.

Further, all the tax-deductible instruments under Section 80C are “cumulatively” considered for tax deductions. For instance, any NPS contribution plus an ELSS or EPF or PPF contribution or all (as the case may be) should not exceed ₹1.5 lakhs in a year.

However, for the National Pension Scheme, there is an additional tax exemption of ₹50,000 and an exemption for any contribution made by an employer!

Hence, it is not hard to see why everyone wants to know how to avail of NPS tax benefits.

Section 80CCD has the rules pertaining to the National Pension Scheme and its tax deductions. Moreover, the NPS employee and employer contribution tax benefits are shown in 80CCD (1) and (2). The details of each sub-section are given below:

NPS Deduction under Section 80CCD (1)

This section highlights the basic NPS rules for both salaried and self-employed persons.

This section says that the maximum tax deduction available for a salaried person is capped at 10% of the salary, that is, basic + dearness allowance, or at 10% of the gross income.
For self-employed persons, the tax deduction cap has been increased to 20% since FY 2017-2018.
Further, individuals can claim a ₹50,000 tax exemption over and above the ₹1.5 lakhs cap that already exists.

NPS Deduction under Section 80CCD (2)

This section is highly important as it details the tax exemptions on NPS contributions by an employer.

Applies only to salaried individuals and not to self-employed persons.
This section says that if an employer makes a contribution to the National Pension Scheme on behalf of an employee, then 10% of the basic salary for a financial year (14% for Central Government employees) is available for deduction over and above Section 80CCD (1) deduction for salaried persons. Further, it is not even considered for the ₹1.5 lakhs cap!
However, the employer cannot “park” more than ₹7.5 lakhs in PF, NPS, or superannuation funds combined. Any amount over this cap will be treated as taxable, even any interests and dividends earned.

Therefore the NPS employer contribution tax benefits are valuable as any subscriber can invest up to 10% of his salary (basic + DA), and so can the employer (up to 10% of basic) on his behalf.

NPS Deduction under Section 80CCD (1B)

This section says that over and above the ₹1.5 lakhs available tax deduction, there is a ₹50,000 further deduction any NPS subscriber can claim. Thus, it raises the maximum exemption limit to ₹2 lakhs.

Type	Section	Maximum Deduction
Deductions if an employee makes the contribution	80CCD (1)	10% of salary up to the ceiling limit of ₹1.5 lakhs
Self-contribution to NPS	80CCD (1B)	₹50,000
Deductions if the employer makes the contribution	80CCD (2)	10% of salary

What Are NPS Tax Benefits?

The NPS tax benefits are for individuals, employees, and government employees are summed up below:

Individuals

Self-employed individuals can get a tax benefit of up to ₹1.5 lakhs at 20% of their income.
An additional deduction of ₹50,000 for NPS (Tier I) accounts is also available.

Employees

Salaried employees can claim up to 10% of their salary (basic + DA) or 10% of the gross income.
They can also claim the additional deduction of ₹50,000.

Government Employees

The NPS scheme tax benefits for Central Government employees are that they can claim up to 14% of their salary for a tax deduction.
They can also avail of the ₹50,000 additional tax deduction if they contribute solely to NPS.

Companies

NPS income tax benefit for corporates is explained as the employers’ NPS contribution, which results in a further 10% of salary as a tax deduction for employees.
Moreover, employers can deduct this amount as “Business Expense” from profit and loss accounts.

Other NPS Tax Benefits

If any subscriber goes for partial withdrawal of funds from the NPS account, then they can claim up to 25% of the subscription contribution for tax exemption.
An amount that a subscriber uses to purchase an annuity at the time of maturity is tax-free. However, as already stated, the income is subject to tax.
Up to 60% of the corpus at the time of maturity can be withdrawn tax-free. The remaining 40% must compulsorily be used to buy annuities, so subscribers are getting the entire maturity amount tax-free. However, income earned on annuities will not be tax-free.

Are NPS Returns Taxable?

As said before, NPS is a triple E investment. All returns from the investment, including the interest and the maturity amount, are interest-free. However, as mentioned before, 40% of the withdrawn corpus has to be used to purchase annuities. Any income earned on these annuities is taxable.

In conclusion, we have highlighted NPS tax benefits for several subscriber categories. Moreover, we also showed which NPS deduction came under which section. Therefore, we hope the reader was enlightened by this latest information.

Frequently Asked Questions

✓ Is NPS better than PPF?

The rate of return on NPS (9-12%) is historically better than PPF (7%). The 5% difference makes NPS returns slightly better than PPF at present in 2021.

✓ Is NPS better than a mutual fund?

NPS is less risky than mutual funds. However, NPS comes with a much longer lock-in period that mutual funds do not.

✓ Can you withdraw from NPS prematurely?

You can withdraw from NPS prematurely, but only after 3 years. Moreover, you can withdraw only 20% of your corpus and invest the rest 80% in annuities.