NPS, or National Pension Scheme, stands as a well-known option for retirement planning in India. It enables you to generate market-linked returns. By consistently contributing to an NPS, you can create a significant savings fund for your retirement years. Beyond just building a retirement fund, an NPS also offers numerous tax advantages. In this blog, we will explore in detail the tax implications of NPS and how an NPS calculator can help you make better retirement planning.
What is the National Pension Scheme?
The National Pension Scheme (NPS) is a government-sponsored social security program. It is available to workers from both the public and private sectors, as well as those in the informal economy, with the exception of military personnel.
This program motivates individuals to contribute to a pension fund at set intervals throughout their working years. Upon retiring, participants can withdraw a specified portion of their savings. As a holder of an NPS account, the balance will be distributed as a monthly pension after retirement.
Previously, the NPS program was exclusive to employees of the Central Government. However, since January 1, 2004, all Central Government employees are required to be enrolled in the NPS. Currently, the Pension Fund Regulatory and Development Authority (PFRDA) has expanded the program to include all Indian citizens who wish to participate voluntarily.
The NPS scheme is particularly beneficial for individuals employed in the private sector who are looking for a consistent pension plan for retirement. It is also portable, meaning it can be taken with you from one job to another, and it offers tax advantages under Sections 80C and 80CCD.
What is an NPS Calculator?
An NPS calculator is a tool designed to assist in evaluating the returns on your NPS investments. By entering a few basic details, you can estimate the retirement corpus you could build over time. This calculator allows you to understand the potential for tax-free lump sum withdrawals and the lifetime pension income from your NPS investments if you start investing today.
Additionally, the NPS calculator can show you the potential tax savings from investing in NPS. This is possible through 80CCD(1B) and Income Tax Act sections 80CCD(1). Furthermore, you are exempt from paying capital gains tax on the amount you withdraw for retirement, and your retirement fund remains tax-free.
How Does the NPS Calculator Work?
The NPS calculator provides a comprehensive view of your total returns, the expected future value of your retirement fund, and the total amount you have invested. It also outlines the maximum amount you can withdraw tax-free at retirement (60%) and the monthly pension income you will receive for the rest of your life. Upon your death, 40% of the NPS fund is transferred to your designated beneficiary.
What are the Tax Benefits of NPS?
NPS offers several tax-saving benefits for both employees and self-employed individuals. By contributing to NPS, you can lower your taxable income and reduce the amount of tax you owe. Here's how you can maximise your tax savings through NPS:
Employee Tax Benefits
If you're an employee contributing to NPS, you can claim a tax deduction under Section 80CCD(1). This allows you to deduct up to 10% of your salary (Basic + DA), with a maximum limit of Rs.1.5 lakh under Section 80CCE. In addition to this, you can take advantage of an extra deduction of Rs.50,000 as per the laws under Section 80CCD(1B). This means you can claim total deductions of up to Rs.2 lakh if you contribute the maximum amount.
Moreover, if your employer also contributes to your NPS account, you can claim additional tax benefits under Section 80CCD(2). For private sector employees, the deduction is up to 10% of your salary (Basic + DA). If you are a central government employee, this deduction increases to 14% of your salary. This benefit goes beyond the Rs.1.5 lakh limit set by Section 80CCE, providing more opportunities for tax savings.
Self-Employed Tax Benefits
For self-employed individuals, the tax benefits are slightly different but still substantial. You can claim a deduction for your NPS contributions under Section 80CCD(1), up to 20% of your gross income, with a total limit of Rs.1.5 lakh under Section 80CCE. Just like employees, you can also benefit from an extra deduction of Rs.50,000 in accordance with Section 80CCD(1B), resulting in your total eligible deduction of Rs.2 lakh.
Additional Tax Benefits
Apart from regular contributions, NPS also provides tax relief on partial withdrawals. If you make a partial withdrawal from your NPS account, you can enjoy a tax exemption on up to 25% of your self-contributions, as specified under Section 10(12B). This is particularly useful in times of need, allowing you to access your funds without a hefty tax burden.
At retirement, you can withdraw 60% of your accumulated NPS funds as a lump sum, which is also tax-free under Section 10. The remaining 40% must be used to purchase an annuity, which provides you with regular income during retirement. While the annuity payments are subject to tax, the initial lump sum withdrawal offers significant tax savings.
The Budget for 2024-25 proposed the launch of NPS Vatsalya, allowing parents to set up an NPS account for their underage kids and make monthly or yearly contributions until they turn 18. After the children reach 18, they will have the freedom to handle the account on their own by transforming the NPS Vatsalya account into a standard NPS account.
Conclusion
The tax implications of NPS can significantly lower your taxable earnings. Yet, it shouldn't be the sole motivation for your investment. It is an excellent tool for accumulating savings for your retirement, given its affordability and adaptability. Therefore, invest with a clear purpose. Moreover, use a dependable NPS calculator to plan for your retirement years strategically.
written by Bruhadeeswaran R.
