In a move welcomed by pension funds, government made NPS withdrawals tax-free on December 6. This makes NPS taxation in line with other government schemes such as EPF (employee provident fund) and PPF (public provident fund). Earlier NPS only enjoyed EET (exempt, exempt, taxable) status. So, withdrawals from NPS were partially taxable. Post the change NPS will now be eligible for EEE (exempt, exempt, exempt) status. This makes the investment, accumulation and withdrawals from NPS tax-free.
Four changes to NPS approved by the Union Cabinet
Change in withdrawal rule:
NPS withdrawals will be tax-free. Currently, an investor had to purchase annuity from 40% of the total corpus in Tier 1 account at the time of retirement or at 60 years of age. This amount was tax exempt. Consequently, the investor could withdraw the remaining 60% of the corpus. However, of the 60%, only 40% is tax exempt while the remaining 20% is taxable. Post the change in rules, the entire 60% of the corpus will be tax exempt. Government is yet to finalise the date of applicability of the new rules.
Contribution to tier 1 account is compulsory for central government employees joining after 01/01/2004. It comes with a lock-in period. Withdrawals from Tier 1 account are permitted only in case of retirement or when the investor turns 60. However, partial withdrawals may be permitted in certain cases. Moreover, investments in Tier 1 NPS are eligible for additional tax benefit of Rs. 50,000 under section 80CCD. This is over and above the 80C benefit of Rs. 1.5 lakh.
More government contribution:
The government increased its contribution to NPS for central government employees from 10% of basic pay to 14% of basic pay. This will substantially increase the total corpus for the employees at the time of retirement. The minimum employee contribution meanwhile remains static at 10%.
Greater investment flexibility:
Government employees will have more flexibility in choosing equity and debt pension funds and fund managers. From current three fund managers, the employee now has an option to choose from 8 fund managers. In terms of investment pattern instead of the standard plan (85% debt and max 15% equity), the employee can choose between three option: 100% debt or 50% equity and 50% debt or 75% debt and 25% equity.
New income tax benefit provision:
Contribution to Tier 2 NPS will be eligible for deduction up to Rs. 1.5 lakh under section 80C provided the investment is held for a period of 3 years. This puts Tier 2 NPS in competition with ELSS for tax allocation.
An active Tier 1 account is a pre requisite for opening a tier 2 account. Investment in Tier 2 accounts is voluntary. Moreover, they do not have any restriction on withdrawals.
