How to use NPS to reduce your income tax this year

Contributions towards NPS or Atal Pension Yojana (APY) only qualify for income tax benefits under Section 80CCD (1B)

You should start planning for income tax if you have not done so far. Among other options, you could closely look at NPS or National Pension Scheme to save income tax. If you don’t have an NPS account yet, it can be opened online. To promote NPS as a vehicle for savings towards retirement, the government has been gradually increasing tax benefits on the pension scheme. For example, in this year’s Budget, the government increased the income tax exemption limit on withdrawal from NPS. 60% of withdrawal from NPS on retirement, or reaching the age of 60, is now tax-free, as compared to 40% earlier.

Income tax-saving by contributing towards NPS

1) Investment of up to  50,000 in Tier I NPS account, for salaried as well as self-employed, in a financial year qualifies for tax deduction under Section 80CCD (1B) of the Income Tax Act. Contributions to Atal Pension Yojana (APY) also qualify for tax benefits under Section 80CCD (1B). This tax benefit is exclusive to only NPS or to Atal Pension Yojana contributions. A tax payer in the highest tax bracket of 30% can save over 16,000 in taxes by contributing 50,000 a year in NPS.

2) This 50,000 extra tax deduction for contribution towards NPS under Section 80CCD (1B) is in addition to the  1.5 lakh allowed under Section 80CCD (1) for investment towards NPS. The deduction under Section 80CCD (1) is available to both salaried individuals and non-salaried individuals.

3) But the total amount of deduction under sections 80C, 80CCC (investment in pension plan offered by an insurer) and Section 80CCD (1) (for NPS) cannot exceed Rs. 1.5 lakh in a financial year. Overall, a tax payer can claim an income tax deduction benefit of up to a total of 2 lakh under Section 80CCD (1B) ( 50,000) and Section 80CCD (1) ( 1.5 lakh).

4) Another point to remember: For salaried individuals, the maximum deduction allowed under Section 80CCD (1) is 10% of their salary for that year and for non-salaried individuals it is 20% of gross total income for that year.

5) Under NPS corporate model, if an employee routes contributions through the employer, an additional tax benefit is offered Section 80CCD (2). The employer’s contribution is covered under Section 80CCD(2). The maximum income deduction allowed under Section 80CCD (2) cannot be more than 10% of employee’s salary in that particular year. Central government employees enjoy a higher income tax deduction of 14% of employer’s contribution.