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Budget: Investment in NPS will get tax exemption
June, 23rd 2009

The forthcoming Budget is set to make the New Pension System (NPS) tax exempt on contribution and accumulation, as the government looks to bring it closer to other such long-term schemes such as the public provident fund scheme and generate interest in the new system, which has so far elicited a lukewarm response.

With regard to tax exemptions during NPS withdrawal, finance minister Pranab Mukherjee is likely to make a statement on NPS enjoying equitable tax treatment with other long-term savings instruments in the new Direct Tax Code expected to be unveiled next year, said a government official who asked not to be named.

NPS is an ultra-low-cost funded pension system in which a common recordkeeping agency maintains individual pension funds of subscribers, who can choose from alternative pension fund managers and asset classes for investments.

It has been in operation for a year for civil servants recruited after January 1, 2004, and has now been opened up to all Indians. Contributions to NPS are expected to be clubbed in the cumulative savings up to Rs 1 lakh exempted from tax under Section 80 C of the Income Tax Act. Right now, 80C exemption is offered to various investments such as public provident fund (PPF) and National Savings Certificate (NSC).

Currently, the tax benefit is available on contributions under Section 80CCD only to salaried taxpayers and that too is conditional to the deposit not exceeding 10% of the salary.

During the period of accumulation, NPS is exempt from tax, just as other long-term saving schemes. However, as of now, withdrawals from NPS are taxable, unlike in the case of say PPF, creating a disincentive for savers. This anomaly can be fixed either by exempting NPS withdrawals also from tax or by bringing withdrawals from other long-term saving schemes also under taxation.

Experts have recommended that all long-term savings be brought under the tax regime dubbed E-E-T, exempt during contribution, exempt during accumulation and taxed during withdrawal.

Pension fund regulator PFRDA has made a strong pitch to the government for giving tax benefits to NPS. It wants a level playing field for all long-term savings in the tax laws.

NPS, which was hitherto applicable to all central and state government employees since 2004, is now available to all citizens from May 1. The government is also expected to reintroduce the PFRDA Bill, which will give legislative teeth to the regulator.

The Bill, which could not be passed owing to opposition from the Left parties, lapsed with the dissolution of the 14th Lok Sabha.

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