Section 10(12B) of the Income Tax Act, 1961 provides tax exemptions on partial withdrawals from the National Pension System (NPS) Trust for employees, subject to specific conditions set by the Pension Fund Regulatory and Development Authority (PFRDA). The exemption applies to withdrawals up to 25% of the employee’s own contributions (excluding employer contributions) for specified purposes, such as education of the subscriber’s children, marriage of children, purchase or construction of a residential house, or treatment of specified illnesses, among others, as prescribed by the PFRDA.
Key Features of Section 10(12B):
- Eligibility: The exemption is available only to employees (not voluntary subscribers) who have an NPS Tier-I account.
- Limit: Up to 25% of the subscriber’s own contributions to the NPS account can be withdrawn tax-free.
- Conditions: Withdrawals must comply with PFRDA regulations, including:
- A minimum contribution period of 3 years.
- A maximum of 3 partial withdrawals during the entire tenure, with a minimum gap of 5 years between consecutive withdrawals (except in cases of specified illnesses).
- The withdrawal must be for purposes specified by PFRDA, such as:
- Higher education of children.
- Marriage of children.
- Purchase or construction of a house (if the subscriber does not own a house in their name or their spouse’s name).
- Medical treatment for specified critical illnesses.
- Taxability: Only the portion up to 25% of the subscriber’s own contributions is tax-exempt. Any excess withdrawal is taxable as per the applicable income tax slab.
Example of Section 10(12B) Exemption:
Let’s consider an employee, Mr. Rajesh, who has an NPS Tier-I account. Below is a detailed example to illustrate how the tax exemption under Section 10(12B) works:
Scenario:
- Total NPS Corpus: ₹10,00,000 (after 5 years of contributions).
- Breakdown of Corpus:
- Employee’s own contribution: ₹4,00,000.
- Employer’s contribution: ₹3,00,000.
- Returns/Interest earned: ₹3,00,000.
- Withdrawal Request: Mr. Rajesh applies for a partial withdrawal of ₹1,50,000 to fund his daughter’s higher education (a purpose allowed under PFRDA regulations).
- Eligibility Check:
- Mr. Rajesh has been contributing to NPS for more than 3 years.
- This is his first partial withdrawal.
- The purpose (higher education) is permitted under PFRDA rules.
Calculation:
- Maximum Exempt Withdrawal under Section 10(12B):
- The exemption is limited to 25% of the employee’s own contribution.
- 25% of ₹4,00,000 = ₹1,00,000.
- Withdrawal Amount: ₹1,50,000.
- Exempt Portion: ₹1,00,000 (as it is within 25% of Mr. Rajesh’s own contribution).
- Taxable Portion: ₹1,50,000 – ₹1,00,000 = ₹50,000 (this amount will be taxed as per Mr. Rajesh’s applicable income tax slab rate).
Tax Implications:
- If Mr. Rajesh falls in the 20% tax slab, the tax on the taxable portion of the withdrawal would be:
- ₹50,000 × 20% = ₹10,000 (plus applicable cess).
- The exempt portion of ₹1,00,000 is not subject to tax.
- Additionally, Mr. Rajesh must invest at least 20% of the total corpus (₹10,00,000 × 20% = ₹2,00,000) in an annuity plan as per NPS rules. Since his withdrawal (₹1,50,000) is less than ₹2,00,000, he meets this requirement. The annuity income received in the future will be taxable as per his income tax slab.
Key Points to Note:
- The exemption under Section 10(12B) applies only to the employee’s own contributions, not the employer’s contributions or the returns/interest earned.
- The partial withdrawal is subject to PFRDA regulations, and the subscriber must provide documentary evidence for the specified purpose (e.g., admission letter for education or medical bills for treatment).
- If the total NPS corpus at maturity is ₹5,00,000 or less, the entire corpus can be withdrawn as a lump sum, but only 60% of it is tax-exempt under Section 10(12A), and the remaining 40% (used for annuity purchase) may generate taxable income in the future
