NPS tier 1 tax liability when investing beyond 80CCD

I know that in Tier 1 NPS you can get tax benefit via 80CCD(1) upto 1.5L, 80CCD(1b) additional 0.5L and 80CCD(2) employers contribution(max 10% of basic).
In the company that I work they give an option for monthly voluntary NPS contribution which I can choose any amount. I have chosen 0.5L/12 so that this falls within the 80CCD(1b) limit yearly 0.5L limit. But If I choose to contribute more what happens? Say I contribute 1L yearly in addition to my employer. Of the 1L only 0.5L is tax exempt(under 80CCD(1b) and say I have already exhausted 1.5L in 80c through other means). So what happens to the other 0.5L. I understand that I will pay tax on that 0.5L. But what happens to the interest(or gains) that this 0.5L accrues in the NPS tier-1 account? Will that also invite tax or is it tax exempt at retirement.
Anyway I understand that in NPS tier 1 there is some tax liability on retirement(like tax is fully exempt if we lumpsum withdraw 40% but taxed if above this limit). So lets assume that I plan to withdraw less than 40% of the NPS account on maturity(which is fully tax exempt). But since the underlying account has contributions which were beyond the tax saving limit(80CCD) will there be some tax liability?
@Quicko @TAXIQ.IN

Hi @simhan, interest on Tier-1 NPS is fully exempt whether you claim the deduction on the principal amount that you have invested. If you continue to have some query regarding this, please feel free to reach out, would love to help. :blush:

Ok. Thanks.
So just to confirm. I invest say 5 Lakhs in my tier1 NPS account(in addition to whatever invested by my employer under 80CCD(2)). I get tax benefit for 0.5 Lakhs(since I have exhausted 80C and can only claim 0.5 L under80CCD(1b)) and pay tax on the remaining 4.5 Lakhs. However the interests/gains accrued by the 5 Lakhs is treated the same. So in a way there is no upper limit to how much one can invest in NPS tier 1 every year. One can say the theoretical upper limit is 88% of basic salary(since 12% goes to EPF). @Quicko @TAXIQ.IN

The reason I am interested in this is that previously I used to invest in VPF over and above the 12% basic. Say I invest 5Lakhs(total employee contribution including both statutory and voluntary). Though I get tax benefit for only 1.5L(80C) but the interest that the entire 5 L generates was exempt from tax. But recently(last year) a cap of 2.5 L was added for employee contribution and anything beyond that the interest is also taxed.
But NPS till now there is no additional taxability on the interest/gains accrued(tough the entire corpus in NPS is not tax exempt to start with).

I don’t think even this is correct. There is no upper limit on investment. Not even 88% of basic. You can invest as much as you want (only limit is on exemption available for taxation)

As such NPS is also open for non-salaried people so having any limit with respect to “Salary” is not possible.

Having said that, I do not really see a good reason of investing high amount in NPS (beyond what you get exemption for). For VPF, I understand the attraction as interest is exempted. But what is additional benefit you are looking for by investing NPS?

It is a product with long lock-in, 100% cannot be withdrawn even on retirement and not super beneficiary taxation.
Wouldn’t you be better off investing in simple mutual funds?

Thanks. Yes I agree there is large lock-in and only 40% tax exemption on final corpus.
I just wanted to clarify my understanding on NPS taxation.
Simple mutual funds have 10% tax on long term gains. While NPS is tax exempt till 40% corpus. But not sure if this 40% is really useful.
Will the monthly annuity on retirement will be taxed based on slab rates? Then it could possibly be 30%(worse case if on the highest slab) and with part of it being TDS right? Then in that case wont NPS be detrimental despite its 80CCD benefits?

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Yes, Annuity income will be taxed at slab. That’s why I said it doesn’t really make lot of sense investing huge amount in NPS.

Within exemption limit, I still think it makes sense, because theoretically you are just investing 35K and getting 50K corpus to begin with (assuming if you didn’t invest, 30% would be tax). So overall return are much higher.

Frankly, if you are 15-20 years away from retirement, it does not make lot of sense worrying about taxes, because you really don’t know what would be the actual taxation at your time of retirement. Looking at changes done in last 5-7 years, I wouldn’t hazard a guess.

Bottom-line, I don’t see any additional value in NPS (beyond 50K) due to long lock in and difficulty to withdraw at retirement.
This is just my view.

Thanks. I get your point. Just that with PF being taxed beyond 2.5 L employee contribution, PF is now is just like any other FD(since both principal and its interest and interest on interest is taxed). So a 8.8% pf interest will look like less than 6% interest. Till now my simple saving portfolio(of somewhat 50% equity and 50% debt) relied on PF for most of the debt portion and this will still work for a few more years(till 2.5 L is breached). But I am not aware of any other safe high yield debt scheme. So I will be forced to put more on equities and skew my portfolio while actually as years go by we actually want to reduce equity exposure. Is there somewhat safe high yielding(9-10% so that it becomes 7% after tax) debt scheme similar to PF/PPF? Though I think I would have probably known it by know if it existed :slight_smile: .

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Falling interest rate on debt instruments and high taxation is the problem everyone is facing :slight_smile:

As far as I know, PF is the highest yielding instruments amongst safe debt since it is implicitly backed by Sovereign. Don’t think you will get that yield which you are looking for, unless you invest in “Slightly riskier” debt funds.

In fact just to be clear, even NPS is not as “safe” as PF. As such by investing NPS, you are investing in equity fund & debt fund combination, which is basically same as investing in MF.

Yes. I agree NPS is not that safe since it is market linked. Maybe even if it is taxed probably I’ll still contribute some extra PF for the time being and also PPF(since it gives slightly lesser than PF returns but can contribute 1.5 L extra every year and interest is tax free). PF(2.5L) and PPF(1.5L) together we get 4L whose interest is tax free though principal we can claim 1.5L tax benefit under 80C.