The National pension system (NPS) is a contributed retirement planning scheme, which is regulated by the Pension Fund Regulatory and Development Authority (PFRDA) and the Union Government of India. This scheme facilitates the subscribers to contribute towards their NPS account at regular intervals. Since it is a market-based product, it offers returns based on the fund performance. NPS is considered one of the most effective long-term investments for retirement financial planning, which also comes with tax benefits.
Advantage of NPS
- The flexibility of choice: NPS offers two options – the auto choice and the active choice. Under the auto choice option, the fund manager manages your investments and invests in a combination of equity, corporate bonds, government securities, and alternative investment funds, as per their understanding and assessment. That is ideal if you have little knowledge of asset allocation and want a professional to manage your investments. However, if you prefer managing the asset allocation yourself, you can select the active choice. Under this, you can invest up to 75% in equities up to the age of 50 years, 5% in alternative investment funds, and the remaining in corporate bonds and government securities.
- Partial withdrawals: A primary advantage of NPS is that it lets you use a portion of your funds and cater to emergencies or any other cash requirement. You can withdraw 25% of your contributions under the Tier I scheme after a minimum of 10 years. However, you can make only three such withdrawals, and there should be a gap of at least five years between two withdrawals.
- Tax benefits: NPS offers tax benefits under various sections of the Income Tax Act, 1961. You can claim a tax deduction of up to Rs. 1.5 lakh under Section 80CCD-1. Additionally, you can also claim a deduction of 10% of the employer's basic salary invested in NPS. Lastly, there is an exemption of Rs. 50,000 for voluntary contributions in NPS.
- Diversification: NPS offers a considerable level of diversification by investing in a combination of equity and debt. The scheme provides favorable market-linked returns and helps you safeguard your older years.
- Flexible contributions: There is no limit on the number of contributions you can make in a year. Moreover, there are also no upper or lower limits for contributing to the scheme. You can invest as much or as little into your account, and the contributions can be made yearly, half-yearly, quarterly, or monthly.
- Enhanced convenience: Opening and managing the NPS account is simple. You can manage your contributions online using your Permanent Retirement Account Number (PRAN).
- Tax liability: Despite the tax exemptions, NPS ends up attracting a lot of tax upon maturity. 60% of the corpus is added to your taxable income. That increases your tax output in retirement.
Tax benefit on NPS
When you plan your taxes carefully, you can save a significant amount towards your tax liabilities and create an additional source of income for yourself. Several provisions under the Income Tax Act allow you to claim deductions against specified investments and expenses. One such deduction is Section 80 CCD (1B), which pertains to the contributions made towards NPS. NPS helps you save taxes and also create a retirement corpus. Section 80 CCD of the Income Tax Act provides deductions to individuals on the NPS contributions made by them and their employer (if applicable). Section 80 CCD(1) provides a maximum deduction of Rs.1.50 lakh per annum paid to the NPS. Additionally, a new sub-section 1B was also introduced, which offered an additional deduction of up to Rs. 50,000/- for contributions made by individual taxpayers towards the NPS. The additional deduction of Rs. 50,000/- under Section 80 CCD(1B) is available over and above the benefit of Rs. 1.50 lakh deduction under Section 80 CCD(1). Thus, the maximum limit of exemption is Rs. 2.00 lakhs under Section 80 CCD(1) + Section 80 CCD(1B).
