Should you Invest Rs 50,000 in NPS to Save Tax u/s 80CCD (1B)?

Invest in NPS to Save Tax

Invest in NPS to Save Tax

Budget 2015 had introduced a new section 80CCD (1B) which gives deduction up to Rs 50,000 for investment in NPS (National Pension Scheme) Tier 1 account This new deduction can help you save tax up to Rs 15,600 in case you are in the 30% tax slab.

The question is should you take advantage of this new tax deduction and invest in NPS?

NPS has not taken off as expected and finance minister by giving this additional tax saving option is trying to give it a push. We all know how many people invest blindly in poor schemes just to save tax. This post is to analyze if it makes sense for us to invest in NPS to save additional tax.

Assumptions:

For our calculation we assume that Amit is 30 year old and would retire at the age of 60. So he would make investment for 30 years.

  • NPS Investment Option: Most Aggressive i.e. 50% investment in equity and 50% investment in debt
  • Amount Invested Annually: Rs 50,000
  • Return on Equity: 12%
  • Return on Debt: 8%
  • Tax Bracket: 31.2% (surcharge revised in Budget 2018)
  • Also the tax bracket remains 31.2% at the time of withdrawal at the age of 60.

Alternatively, Amit can pay tax on this Rs 50,000 and invest the remaining amount (i.e. 50,000 * (1-31.2%) = Rs 34,400) in Equity Mutual fund which gives return of 12% annually.

Also Read: NPS Tax Benefit u/s 80CCD(1), 80CCD(2) and 80CCD(1B)

Updated Comparison: After introduction of Long Term Capital Gains Tax on Equity Mutual Funds in Budget 2018

Should you Invest in NPS to Save Tax u/s 80CCD (1B) - Revised Calculation after Budget 2018

Should you Invest in NPS to Save Tax u/s 80CCD (1B) – Revised Calculation after Budget 2018

As can be seen in the calculation above, the final amount generated by NPS is 90.47 Lakhs while in case of equity mutual fund its 92.98 Lakhs.

Additionally, in case of NPS you can withdraw maximum of 60% of the total maturity amount which is 54.28 Lakhs. 20% of NPS corpus would be further subjected to 31.2% tax, which means you would be left with net amount of Rs 48.64 lakhs after tax. Rest Rs 36.19 lakhs should be used to purchase annuity.

The proceeds received from this annuity is again considered income and taxed according to marginal tax rate. Also annuities in India have not evolved and the return from varies in the range of 6% – 7%. This makes it a sub optimal investment choice.

In case of investment in equity mutual fund, the long term capital gains in equity mutual fund is taxed at 10.4% (from FY 2018-19). At maturity you have Rs 93.39 Lakhs which after LTCG tax would be Rs 84.38 Lakhs.

If you see the taxation of both NPS and Mutual Funds have changed in last 2 years. So a long term decision (30 years in this case) cannot be made just based on present tax rules.

Download: Free ebook for Income Tax Planning for FY 2018-19

Significant points:

  1. For people in lower tax brackets, investing in Equity Mutual Fund becomes much better option as compared to NPS. This is because the tax outgo is lesser and hence more money is invested in MF.
  2. As the duration of investment goes up the mutual fund option becomes even better due to compounding at higher return rates.
  3. You might be in lower tax brackets at the time of investment; but might fall in highest tax bracket while withdrawing NPS as it would be accumulated over a long period of 25 to 40 years.
  4. With the new rules you can split your withdrawal till the age of 70 – lessening you tax outgo.
  5. You need not purchase annuity if the NPS maturity corpus is less than Rs 2 Lakhs.

Should People nearing Retirement Invest in NPS?

I often get queries by people near retirement that if they can and should open NPS account to get tax benefit u/s 80CCD(1B). Below is my take and you can take your decision accordingly.

  • Anyone who is below 65 years of age can open NPS account – so technically you can open your NPS account.
  • Assuming you are 62 years or more and the tax exemption stays for next few years. You can invest 50,000 every year for 3 years. With 10% annual returns your NPS maturity amount would be less than Rs 2 lakhs.
  • As per rules, you need not purchase annuity if the maturity amount is less than Rs 2 lakhs. So after retirement you can withdraw the amount without much tax burden.
  • You can also time the withdrawal to a year (but before reaching 70 yeas of age) when the tax liability is lower or split the withdrawal in 10 installments.

Also Read: NPS – Maturity, Partial Withdrawal & Early Exit Rules

Even for lower age people you can start investing Rs 50K for tax saving until its provided for and keep account active by contributing minimum of Rs 1,000 per year.

Conclusion:

Budget 2016 had brought down the tax liability on NPS maturity to acceptable level while Budget 2018 introduced Long term capital gains on equity mutual funds. You get instant tax saving if you choose NPS. You may look to invest in NPS but keep the following in mind:

  1. The NPS tax benefit may be done away in future but you are ready to continue the same with minimum annual investment
  2. Tax on investments keep on changing and tax on both mutual funds & NPS can change in future
  3. Equity Mutual Funds would outperform NPS in most cases
  4. NPS would outperform if compared to fixed deposits (in most scenarios)

380 thoughts on “Should you Invest Rs 50,000 in NPS to Save Tax u/s 80CCD (1B)?

  1. I am investing ₹50000/every year in tire _1.when I take/withdraw all my invest money?my age now is 58years.

  2. My CTC is fall under the 30% bucket as govt has changed so much rules on nps and seems this article is old.

    Please let me know if still equity mutual funds are better option than nps even after LTCG deduction on MF.

    Thanks,
    Vinod

    • Both NPS and equity mutual funds are comparable. Have updated the comparison to include LTCG of Mutual Funds. have a look at calculations and decide fro yourself!

  3. Bibhutibhushan Pati says:

    Can 10% NPS deduction from my salary claim u/s 80CCD1 B if my PPF or other investment of Rs 1.5 lakhs complete with u/s 80 C with limit to that amount?

    • yes you have the option to choose if you want your NPS contribution in 80CCD(1) or 80CCD(1B)

      • Bibhutibhushan Pati says:

        Any kind of written documents mentioning clearly 10% deduction from salary can claim u/s 80CCD 1B because my DDO has deducted tax saying additional contribution to NPS only u/S 80CCD 1B
        please provide me that document so that I can prove

  4. I am a central gov employee . My total contribution in 80c, 80ccd(1) exceed 1.5 lac. Can i clain my contribution (10% of salary duducted every month) in 80ccd(1B) for additional benefit of 50k.

  5. CHALLAGURUMURTHY says:

    Sir, Somewhere I read that NPS account should run for a minimum period of 10 years. Pl. Clarify. Now I am 56 years old. I want to invest for 4 years and take back the total amoun one year after retirement(below 2 lakhs). Kindly guide.

  6. I have opened NPS account online…if I contribute under tier 1… Will it be eligible for cc’d 1b.

  7. Mukul Aggarwal says:

    I want to know is NPS a better option than equity mutual funds? Now that the long term capital gains on them are taxable. Please publish a similar article with the latest budget scenario. I think now as per this year’s budget, NPS will be become a better option in the long term.

  8. with new LTCG, Is your illustration still holds good ?

    • The mutual fund corpus at maturity would reduce by Rs 8.6 lakhs due to LTCG tax and hence would become less attractive. However for 30 year period its difficult to just take call based on taxation. Mutual Fund in general are better investment while NPS without tax saving investment is badly designed and ever changing product.

  9. abhishek Sharma says:

    My joining date is 1 april 2009 it’s mean I am a NPS time employee of state govt my question is my deduction in 80c(150000) is complete with my investment in LIC and ppf may I transfer my employer share in 80ccd(1b) to take benifit of deduction of rs 150000+50000=200000/-
    Please describe which section is applicable for that

    • No you cannot claim tax benefit of employer NPS contribution u/s 80CCD(1B). However you can claim tax benefit for your contribution

  10. Amrit Bhadra says:

    Whether it is applicable in tier-1 or tier-2

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