How Has NPS Withdrawal Become 100% Tax Free?

The government on Monday announced some major changes to NPS (National Pension System) based on its Union Cabinet meeting on 6 December. It was announced that 60 percent of the corpus that can be withdrawn on retirement will be completely tax-free. Earlier, only 40 percent out of the 60 percent share was tax-free and the rest (20 percent) was taxable. The remaining 40 percent of the corpus will have to be invested in an annuity scheme.

The complete tax exemption on withdrawal will make NPS on par with the other pension schemes like PPF (Public Provident Fund) and EPF (Employees' Provident Fund). All the three are regulated by the Pension Fund Regulatory and Development Authority (PFRDA) and enjoy the EEE (exempt-exempt-exempt) tax benefit, that is, tax exemption is available at the time of deposit, interest earning and withdrawal of corpus.

Another major change is that the mandatory contribution made by the government towards NPS of central government employees will now be increased from 10 percent to 14 percent. The increased contribution will make it more profitable for pensioners when compared to the older defined pension system where a pensioner would receive 50 percent of his/her last drawn salary.

An HDFC Pension Fund study found that the 10 percent mandatory contribution by the employee along with the government's 14 percent will accumulate a corpus in 35 years to generate a pension equal to 64 percent of the employee's last drawn salary.

Additionally, government employees can also get tax deduction under section 80C on investments towards Tier II fund of the NPS, provided one stays invested for three years minimum (lock-in period).

However, it is still not clear how the gains from NPS would be taxed on withdrawal. Earlier 20 percent of the withdrawal from Tier I on maturity was fully taxed.

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