When an employee retires, the company pays him a certain sum on a regular basis in recognition of his past service. Pension refers to the periodic payment made by the employer to his employee.
With the implementation of the National Pension Scheme(NPS), not only the employer pay pension after retirement, but Pension Scheme can also pay pension. Individual taxpayers may also invest in a pension plan, which will provide them with a pension once they retire. Such investments in pension plans can also be deducted under Sections 80CCC and 80CCD.
The amount received as pension from the employer, pension fund, or any other source would be subject to income tax. The computation of income tax on pension income is detailed further down in this article.
Before delving into the calculation of pension tax, it is important to realise that there are two forms of pension:-
- Uncommuted Pension : An uncommuted pension is one that is received on a regular basis. Uncommuted pension payments are completely taxable in the hands of both government and non-government employees.
- Commuted Pension : Commuted means Interchange. Many firms enable employees to relinquish a portion of their pension and receive a lump sum payment in exchange for foregoing a portion of their pension. The sum received is referred to as Commuted Pension. Pension amount can be commuted fully or partially.
For example, suppose a person is entitled to receive a pension of Rs. 2000 pm for the rest of his life. He may commute 1/4th i.e. 25 percent of this amount and get a lump-sum of Rs. 30,000. After commutation, his pension will now be 75% of Rs. 2000 per month, i.e. 1500 rupees per month.
Income Tax on Commuted Pension
Income tax on Commuted Pension would be calculated as follows when submitting an Income Tax Return under Section 10(10A):
Received from Govt employer : Fully Exempt from Income Tax. In other words, no income tax on pension received from Govt.
Received from Non Govt Employer : The following amount shall be exempted from the levy of tax on pension income.
Tax on Pension Income
The pension received is “taxable under head Salary” .
However, as per Section 57(ii)(a), if an uncommuted family pension is received by family members after the employee’s death, the pension is taxable under the head Of “Income from Other Sources” because an employer-employee connection does not exist in this scenario. In such a case, where uncommuted family pension is being received by the family members – 1/3rd of the Pension received or Rs. 15,000 whichever is less shall be exempt.
However, according to Circular No. 573 of 21/08/1990, if any commuted pension is paid to family members, no tax is payable on the commuted pension.
Points to Consider Regarding Pension Tax
- ½ of the commuted pension received by the judges of the Supreme Court and the High Court would be allowed as exemption (Circular No. 623 dated 06-01-1993)
- No tax on pension income would be levied on any amount received from UNO
- A standard deduction of Rs. 40,000 can also be claimed on pension income because it falls under the same category as salary income. This Deduction is effective beginning with the 2018-19 fiscal year.