NPS Tax Benefits in the New Tax Regime

An Overview of NPS Tax Benefits

Before examining the New Regime, it is useful to understand how NPS deductions are structured. Under the Income-tax Act, 2025, applicable from Tax Year 2026-27, NPS-related tax deductions are governed by Section 123 read with Schedule XV for eligible own contributions and Section 124 for eligible employer contributions, subject to the applicable conditions and limits.

1. Your Own NPS Contribution

   The employee's personal contribution to NPS is not eligible for a tax deduction under the New Tax Regime. For Tax Year 2026-27 onward, the tax treatment of NPS contributions depends on the type of contribution and the applicable provisions of the Income-tax Act, 2025 subject to the applicable conditions. The ₹1.5 lakh aggregate deduction available under the Old Tax Regime is not available for personal NPS contributions under the New Tax Regime.

2. The Additional ₹50,000 Deduction

   Personal NPS contributions are not eligible for a tax deduction under the New Tax Regime. Therefore, there is no NPS deduction under the New Tax Regime for an individual's own NPS contribution. For Tax Year 2026-27 onward, the tax treatment of own contributions is governed by the applicable provisions of Section 123 read with Schedule XV of the Income-tax Act, 2025. The additional ₹50,000 deduction available under the Old Tax Regime is not available under the New Tax Regime.

3. Employer's Contribution in NPS

   The employer's contribution to the NPS account of the employee may be eligible for deduction under Section 124 of the Income-tax Act, 2025. This provision provides a tax benefit for eligible employer contributions to NPS, subject to the applicable tax regime, limits and conditions. The related provision in Income-tax Act, 2025 is applicable from Tax Year 2026-27.

NPS Deduction in New Tax Regime

Understanding what changed and who qualifies for NPS deduction under new tax regime provides the necessary context before examining how the benefit works in detail.

1. What Changed

   For taxpayers opting for the New Tax Regime, the eligible employer NPS contribution deduction limit was increased to 14% of salary with effect from 1 April 2025, irrespective of whether the employer is a government or non-government employer. The Income-tax Act, 2025 applies from 1 April 2026 to income of Tax Year 2026-27 onward, while income for Assessment Year 2026-27 continues to be governed by the Income-tax Act, 1961.

2. Who Is Eligible

   The employer-contribution deduction applies to employees where an employer makes an eligible contribution to the employee's NPS account. Self employed individuals are not eligible for this particular benefit, as an employer contribution is, by definition, absent in such cases.

Employer's Contribution to NPS

The deduction for employer contribution constitutes the most significant NPS tax benefit in new regime available to salaried individuals under the New Regime.

Deduction Limits by Employee Type

Under the NPS tax provisions applicable to the New Tax Regime, eligible employer contributions to an NPS account can qualify for deduction up to 14% of salary, subject to the statutory definition of salary and applicable conditions.

1. The ₹7.5 Lakh Aggregate Threshold

   An important detail frequently omitted is that an employer's contribution to NPS is not assessed in isolation for perquisite tax purposes. The ₹7.5 lakh aggregate threshold is relevant to the taxability of employer contributions to NPS, a recognised provident fund and an approved superannuation fund as a perquisite in the employee's hands, and is a separate rule from the NPS deduction limit itself.

   The amount of such employer contributions exceeding the prescribed aggregate threshold is taxable as a perquisite, subject to the applicable provisions. For most salaried individuals, this threshold will not be a practical concern, but for senior employees with high CTC structures where the employer contributes substantially across all three retirement instruments. It is advisable to verify this against payroll records.

   The deductible amount under the NPS provisions is separately subject to the applicable NPS deduction provisions and conditions; the ₹7.5 lakh aggregate threshold for perquisite taxation is a distinct rule.

2. How This Compares to the Old Regime

   Employees' own NPS contributions are not eligible for deduction under the New Tax Regime. For Tax Year 2026-27 onward, eligible own NPS contributions may qualify for deduction under the applicable provisions of the Income-tax Act, 2025, while the additional ₹50,000 deduction is provided under Section 124(3), subject to applicable conditions.

Tax Treatment of NPS Contributions and Withdrawals

NPS has different tax treatment at the contribution, accumulation and withdrawal stages and should not simply be described as an EEE instrument. Besides, the NPS tax treatment in the New Tax Regime is different from the Old Regime.

• Contribution Stage: The eligible employer contribution can qualify for deduction from the employee's total income, subject to the applicable limits described earlier.
• Accumulation Stage: Returns within the NPS corpus are not taxed separately during the accumulation period.
• Withdrawal Stage: The lump sum withdrawal from eligible NPS may be excluded from tax as per the applicable regulations of income tax. The rules that apply are as follows:
• Partial Withdrawal: Partial withdrawal of up to 25% of own contributions, from NPS Tier I account excluding appreciation or returns, is permitted after three years, subject to the applicable PFRDA conditions and permitted purposes.
• Lump Sum Withdrawal at Normal Exit: Under the Corporate Model, the applicable exit rules determine the amount that can be withdrawn as lump sum and the amount required for annuity, subject to the applicable NPS exit regulations and conditions.
• Annuity Purchase: The amount used to purchase an annuity plan is not taxed at the time of purchase. However, the annuity income received subsequently is taxable in the recipient's hands under the applicable income-tax provisions.

How to Claim NPS Tax Benefits in the New Tax Regime?

Be sure to check the contribution information throughout your pay history and tax returns and then file your return to obtain the applicable NPS tax benefit:

• Review Salary Records: Check the amount that the employer is contributing towards your NPS in your payroll or salary slips.
• Verify Salary and Tax Records: Make sure that the employer's contribution for NPS is appropriately represented in your salary records and other relevant salary TDS certificates.
• Match NPS Records: Compare the contribution amount with the NPS statement or contribution records available through the NPS Trust or the relevant NPS intermediary.
• Report in ITR: When filing your Income Tax Return, enter the relevant employer NPS contribution and deduction information correctly.

What is NOT Available Under the New Tax Regime for NPS

Employees' own NPS contributions are not eligible for deduction under the New Tax Regime. Under the Old Regime, eligible own NPS contributions may qualify for deduction under Section 123 read with Schedule XV of the Income-tax Act, 2025. While the additional ₹50,000 deduction is available under Section 124(3), subject to the applicable conditions.

Tax Treatment for Self Employed Individuals

Self-employed individuals are not eligible for the employer-contribution deduction because they do not have an employer making the contribution. The treatment applicable to them across both regimes is set out below.

1. Old Regime Treatment

   Self employed individuals may claim a deduction under Section 80CCD(1) of the Income-tax Act, 1961 of up to 20% of gross total income for contributions to their own NPS Tier I account, subject to the overall ₹1.5 lakh ceiling under Section 80CCE. They may also claim the additional ₹50,000 deduction under Section 80CCD(1B), subject to applicable conditions and limits.

2. New Regime Treatment

   An individual's own NPS contribution is not eligible for deduction under the New Tax Regime. Self-employed individuals seeking a deduction for their own NPS contribution may find the Old Regime more favourable, although the structure of NPS may still merit consideration independent of the tax treatment.

Tax Treatment for Employers and Corporates

The tax efficiency of NPS extends beyond the employee. Employers also have a distinct incentive to structure compensation in this manner.

1. Deduction on Business Expense

   An employer may claim an eligible NPS contribution as a business expense, subject to the applicable provisions. Separately, an eligible employee may claim the employer contribution as a deduction under Section 124 of the Income-tax Act, 2025, subject to the applicable limits and conditions.

2. Why Employers Offer This as a Benefit

   An eligible employer NPS contribution can provide a tax benefit to the employee while also being treated as an eligible business expense for the employer, subject to applicable conditions.

Common Mistakes When Claiming NPS Tax Benefits

The following are some of the errors to avoid when reporting NPS contributions under the New Tax Regime:

• Claiming Personal Contributions: Do not claim your own investment in NPS under New Tax Regime.
• Claiming the ₹50,000 Deduction: Do not claim the extra ₹50,000 deduction unless you confirm that it is applicable to your chosen tax regime.
• Using an Incorrect Contribution Amount: Check the amount of NPS contribution made by the employer then calculate the amount of deduction that can be taken.
• Confusing Contribution With Deduction: The overall NPS contribution and the sum that is deductible on taxes are not always similar.
• Skipping Document Verification: Before you get down to drafting your return of income, you should cross-check your NPS contribution statement with your salary records and mandatory salary TDS certificate.

NPS Tax Benefit Calculation: How Much Can You Save

The actual tax saving from the employer contribution deduction depend on the individual's income level, as the benefit operates by reducing taxable income rather than by offering a direct rebate.

Example 1, ₹10 Lakh Salary

Illustration showing calculation on salary base of ₹10 lakh, full eligibility of ₹1.4 lakh employer contribution for deduction and expected marginal tax rate of 10%

*Calculation: ₹1,40,000 × 10% assumed marginal rate = ₹14,000.

Example 2, ₹20 Lakh Salary with a Higher Employer Contribution

Illustrative calculation assuming ₹20 lakh is the relevant salary base, the entire ₹2.8 lakh employer contribution is eligible for deduction, and an assumed marginal tax rate of 20%.

*Calculation: ₹2,80,000 × 20% assumed marginal rate = ₹56,000.

Note: These figures are only for illustrative purposes and are based on the specified estimated marginal tax rate and do not represent the actual tax saving for any taxpayer with this salary. The actual tax saving will depend on the taxpayer's taxable income, the applicable marginal tax rate and other relevant regulations.

As illustrated by these instances, the possible tax saving is dependent on the allowable deduction and the marginal tax rate applied to the taxpayer.

NPS Taxation in New Tax Regime and Old Tax Regime

Here's an overview of how NPS tax benefits work under the New and Old Tax Regimes.

Who Should Choose NPS in New Tax Regime

The benefit of NPS under the New Tax Regime depends significantly on the amount of eligible employer contribution.

1. Best for Salaried Employees with Strong Employer Contributions

   Where an employer already contributes a meaningful percentage of basic salary, NPS in the New Regime allows eligible employer contributions to qualify for deduction up to the applicable 14% limit. This is subject to statutory conditions and to the tax rates and standard deduction applicable under the New Regime.

2. Best for Those with Minimal Other Deductions

   The New Regime may be more suitable where the taxpayer has limited deductions available under the Old Regime, such as home loan interest or health insurance premium deductions, and receives an eligible employer NPS contribution.

3. When the Old Regime Still Makes More Sense

   Where an individual has significant home loan interest, is maximising the ₹1.5 lakh aggregate ceiling under Section 80CCE, and is also contributing the additional ₹50,000 deduction under Section 80CCD(1B). The combined value of these deductions may, for some taxpayers, exceed what the New Regime's lower rates provide. This should be verified through an actual side by side tax computation rather than assumed on the basis of NPS treatment alone, as NPS represents only one component of a considerably larger comparison.

Should You Choose NPS in the New Tax Regime?

If you are a salaried employee under the New Tax Regime, NPS can help you in reducing your tax bill as well as creating a retirement corpus. Your payments aren't tax-deductible, but if your employer contributes, you can get a substantial tax relief. This means that NPS is one of the few instruments that still give considerable tax reduction under the New Tax Regime.

Conclusion

NPS can continue to offer a tax benefit under the New Regime where an employer makes an eligible contribution. This is due to the employer contribution deduction being retained, and the enhanced 14% limit under the New Tax Regime applies to eligible employer NPS contributions with effect from 1 April 2025, along with the corresponding provision under the Income-tax Act, 2025. If an employer provides an NPS contribution as part of the compensation structure, this can help build a retirement corpus through the pension plan while potentially reducing taxable income through the eligible employer contribution deduction.