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NPS Investments: Many people invest in the National Pension System (NPS) to save for retirement. The added benefit of NPS is that it offers tax benefits in both the old and new tax regimes. Under the old tax regime, NPS offers tax benefits under three sections of the Income Tax Act, 1961.
Let us understand here how investing in NPS helps an individual save tax under various sections of the Income Tax Act in both old and new tax regimes?
NPS Investments under New Tax Regime
Individuals who have opted for the new tax regime in the current financial year can avail deduction under section 80CCD(2) of the Income Tax Act by investing in NPS. This deduction can be claimed from total income if the employer contributes to the NPS account on behalf of the employee. Here, the employer deposits money in the employee's Tier-I NPS account. These NPS contributions are part of the employee's cost to company (CTC) and hence may have an impact on the take-home salary.
An employee can claim a deduction of up to 10% of his salary for such deposits. A Government (Central and State Government) employee can claim a deduction of up to 14% of his salary for NPS contribution made by the Government.
There is another limit on how much of the employer's contribution to NPS can be claimed as tax exemption. As per the law, if the employer's contribution to NPS, Employees' Provident Fund and any retirement fund exceeds Rs 7.5 lakh in a financial year, the excess contribution will be taxable in the hands of the employee. In addition, any interest, dividend or any return earned from the excess contribution will also be taxable in the hands of the employee.
Let us tell you that the government has tried to make the new tax system more attractive from the current financial year 2023-24. Under the new tax system, the income tax slab has been revised, the basic tax exemption limit has been increased from Rs 50,000 to Rs 3 lakh.
Standard deduction has been introduced in the new tax regime for the salaried class, pensioners and family pensioners; and tax exemption under section 87A has been increased to make income up to Rs 7 lakh tax free. Also, the new tax regime has become the default tax regime. Hence, individuals who wish to opt for the old tax regime will have to specifically choose it, unlike previous years when the old tax regime was the default tax regime.
NPS Investments under Old Tax Regime
The old tax regime allows an individual to claim deductions (from gross total income) on investments made in NPS under three sections of the Income Tax Act. As mentioned above, apart from deduction under section 80CCD (2), it also allows deductions under section 80CCD (1) and section 80CCD (1B).
Deduction under section 80CCD (1): The Section 80CCD (1) deduction is entirely covered under Section 80C. One can claim a deduction of Rs 1.5 lakh or 10% of the basic salary, whichever is lower, by contributing to his Tier-I NPS account. So, if 10% of a person's basic salary is less than Rs 1.5 lakh, the person can claim a deduction of only 10% of the basic salary. To avail the full benefit of the maximum deduction of Rs 1.5 lakh, one has to use other methods specified under Section 80C.
Deduction under section 80CCD(1B): Deduction under Section 80CCD(1B) is available in addition to Section 80C/80CCD(1). This deduction can be claimed when a person exhausts the limit of Section 80C/80CCD(1). The maximum deduction under this section is Rs 50,000.
Therefore, by investing Rs 50,000 in NPS, one can claim deduction under this section. The investment should be made in a Tier-I NPS account.
Maximum total deduction under old tax regime up to Rs 9.5 lakh: Thus, if a person opts for the old tax regime, he can claim a total deduction of Rs 9.5 lakh under three sections of the Income Tax Act – Section 80CCD (1) Rs 1.5 lakh, Section 80CCD (1B) Rs 50,000 and Section 80CCD (2) Rs 7.5 lakh.