How to avail up to Rs 2 lakh income tax deduction through National Pension System (NPS)

New Delhi: National Pension Scheme (NPS) was launched in January 2004 for Central government employees, with the exception of armed forces. Most of the state governments also made this retirement saving available for their new entrants. Later in 2009, this retirement savings scheme was made available to all sections of the society, even for NRIs.

In this scheme, a subscriber can contribute regularly during his working life and withdraw 60% the corpus (tax-free) in lump sum after retirement and invest the remaining 40% corpus to buy an annuity to create a regular source of income for him.

The government has also been making changes in the scheme regularly to make it more attractive for people.

According to an earlier report in the Hindu Business Line, government employees who opted for NPS are now better of than Employees’ Provident Fund (EPFO) subscribers as the schemes earmarked for Central (Scheme-CG) and state government employees (Scheme-SG) have delivered a higher return than EPFO.

According to the Business Line report, over the last 10 years, Scheme-CG and Scheme-SG have delivered an average return of 9.1% and 9.5% respectively as compared to average 10-year EPFO return of 8.7% (without considering the tax aspect). These higher returns have come despite the cautious investment approach followed by these funds.

These funds invest up to 15% of their corpus in equities while the remaining 85% is invested in government securities and corporate bonds. Worth mentioning here is the two government schemes also outperformed conservative hybrid mutual funds that invest up to 25% in equities, in the last five and 10-year timeframe.

NPS offers two types of accounts – Tier 1 and Tier 2. While the Tier 1 NPS account is strictly a pension account which doesn’t allow withdrawals, the Tier 2 account is a voluntary saving account. one can withdraw from Tier 2 account anytime.

Here are the tax benefits you can get by investing in NPS

On employee’s contribution: Under Section 80 CCD (1) of Income Tax Act, employee’s own contribution up to 10 per cent of salary (Basic + Dearness Allowance) is eligible for tax deduction. This amount should not exceed the overall limit of Rs. 1.50 lakh under Section 80 C of the Income Tax Act. For the self-employed taxpayer, this limit is 20% of the gross income.

On employer’s contribution: Under 80CCD (2) of the Income Tax Act, employer’s contribution up to 10 per cent of salary (Basic and Dearness Allowance) is eligible for tax deduction. This amount is over and above the Rs 1.5 lakh limit available under Section 80C.

On voluntary contribution: Under section 80 CCD 1(B), employees can voluntarily invest an additional amount of Rs. 50,000 in the NPS Tier I account and claim tax deduction on the same.

So NPS allows employees to avail income tax deduction on self contribution of up to Rs 2 lakh. the employer’s contribution is an additional benefit. Gradually many private companies are introducing NPS for their employees in order to reduce their tax liability.