- Date : 08/02/2020
- Read: 5 mins
The law grants tax exemptions on retirement benefits like PF, pension, gratuity and other retirement benefits. Learn more about the applicable rules to avoid tax hassles in your retired life.
Retired life begins with liquidation of retirement benefits such as your Provident Fund, Gratuity, Superannuation fund, leave encashment etc.
These benefits after retirement, which you have built over decades of disciplined savings, will be transferred into your bank account to help you enjoy the retired life without any financial worries. However, ignoring your tax liability on these benefits can lead to numerous legal and financial complications. Hence, read ahead for an overview of the tax rules applicable to the common retirement benefits.
Related: Should you stick to the old tax regime or move to the new one?
1. Provident Fund
At the time of retirement, your Provident fund account will consist of your contributions, the contributions of all your employers, and the interest credited over the years. This entire corpus is tax free provided the following conditions are fulfilled:
- The PF account is either Statutory or Recognized or a Public PF account.
- You were in continuous service, either with one or multiple employers, for a period of at least five years. If you change jobs, then the PF account should be transferred to the new employer. If this is done, then the period of employment with the previous employer will be included when computing the period of five years of continuous service.
So, if you remain in service for at least five years for one or different employers and have any PF account other than an unrecognized one, then the entire PF account corpus will be exempt from tax when it is credited after your retirement.
Related:Retirement Planning: 55% of senior citizens regret not saving enough for retirement
2. Gratuity
Gratuity, for tax exemption purposes, is calculated as a proportion of your monthly salary multiplied by the total years of completed service. If you are covered under the Payment of Gratuity Act, then the last drawn salary is used for the calculation. If not covered, then the average salary based on the last ten months of service will be considered. The maximum amount exempt from tax is Rs. 10 lakhs.
If the basic component of your monthly salary is Rs. 20,000 and your total years of service is 25 years, then the amount of gratuity exempt from tax will be calculated as below.
| Header 1 | Header 2 |
|---|---|
| Salary for 15 out of 26 working days | INR 11,540 approx. |
| Total years of completed service | 25 years |
| Amount exempted from tax | INR 2,88,500 |
Related: Types of pension plans and their tax benefits
3. Superannuation
Any superannuation or pension policy obtained directly or through the employer will mature at the time of your retirement. The maturity amount is normally paid in the form of a partial lump sum payment with the balance invested in annuities for generating a fixed monthly or periodic income.
So, if the maturity amount is Rs. 1 crore, then you may get around Rs. 30-40 lakhs as a lump sum payment with the balance amount used to generate a fixed monthly income after retirement. The lump sum payment is called the commuted pension. The amount invested in annuities is your uncommuted pension.
Related:Tax deductibles you are entitled as a parent [Infographic]
1/3rd of the commuted pension is exempt for those who have received gratuity from their employers. For others, the exemption limit is 50%. Income from the uncommuted pension will be taxable at applicable rates.
New Pension Scheme account holders can claim exemption on entire amount provided it is entirely used to purchase an annuity for generating a fixed income.
If you withdraw the maximum permissible 60% of the fund amount, then 40% of the withdrawal amount will be tax free.
Related:The new gratuity amendment and what it means to you
4. Leave Encashment
Employers permit retiring employees to encash a fixed number of available paid leaves and holidays (Includes public as well as organization-specific holidays).The exemption amount will be either Rs. 3 lakhs or 10 months of leave encashment whichever is lower.
So, if you have five months leave available at the time of retirement and the ten months’ average of your salary is Rs. 50,000, then you can claim the lower of Rs. 2.5 lakhs (Rs. 50,000 x 5 months) or Rs. 3 lakhs i.e. Rs. 2.5 lakhs as exempt from tax.
Being aware of the amount income tax after retirement that you need to pay against the benefits will ensure you can maximize savings and minimize legal and financial complications when beginning your retired life.
Retired life begins with liquidation of retirement benefits such as your Provident Fund, Gratuity, Superannuation fund, leave encashment etc.
These benefits after retirement, which you have built over decades of disciplined savings, will be transferred into your bank account to help you enjoy the retired life without any financial worries. However, ignoring your tax liability on these benefits can lead to numerous legal and financial complications. Hence, read ahead for an overview of the tax rules applicable to the common retirement benefits.
Related: Should you stick to the old tax regime or move to the new one?
1. Provident Fund
At the time of retirement, your Provident fund account will consist of your contributions, the contributions of all your employers, and the interest credited over the years. This entire corpus is tax free provided the following conditions are fulfilled:
- The PF account is either Statutory or Recognized or a Public PF account.
- You were in continuous service, either with one or multiple employers, for a period of at least five years. If you change jobs, then the PF account should be transferred to the new employer. If this is done, then the period of employment with the previous employer will be included when computing the period of five years of continuous service.
So, if you remain in service for at least five years for one or different employers and have any PF account other than an unrecognized one, then the entire PF account corpus will be exempt from tax when it is credited after your retirement.
Related:Retirement Planning: 55% of senior citizens regret not saving enough for retirement
2. Gratuity
Gratuity, for tax exemption purposes, is calculated as a proportion of your monthly salary multiplied by the total years of completed service. If you are covered under the Payment of Gratuity Act, then the last drawn salary is used for the calculation. If not covered, then the average salary based on the last ten months of service will be considered. The maximum amount exempt from tax is Rs. 10 lakhs.
If the basic component of your monthly salary is Rs. 20,000 and your total years of service is 25 years, then the amount of gratuity exempt from tax will be calculated as below.
| Header 1 | Header 2 |
|---|---|
| Salary for 15 out of 26 working days | INR 11,540 approx. |
| Total years of completed service | 25 years |
| Amount exempted from tax | INR 2,88,500 |
Related: Types of pension plans and their tax benefits
3. Superannuation
Any superannuation or pension policy obtained directly or through the employer will mature at the time of your retirement. The maturity amount is normally paid in the form of a partial lump sum payment with the balance invested in annuities for generating a fixed monthly or periodic income.
So, if the maturity amount is Rs. 1 crore, then you may get around Rs. 30-40 lakhs as a lump sum payment with the balance amount used to generate a fixed monthly income after retirement. The lump sum payment is called the commuted pension. The amount invested in annuities is your uncommuted pension.
Related:Tax deductibles you are entitled as a parent [Infographic]
1/3rd of the commuted pension is exempt for those who have received gratuity from their employers. For others, the exemption limit is 50%. Income from the uncommuted pension will be taxable at applicable rates.
New Pension Scheme account holders can claim exemption on entire amount provided it is entirely used to purchase an annuity for generating a fixed income.
If you withdraw the maximum permissible 60% of the fund amount, then 40% of the withdrawal amount will be tax free.
Related:The new gratuity amendment and what it means to you
4. Leave Encashment
Employers permit retiring employees to encash a fixed number of available paid leaves and holidays (Includes public as well as organization-specific holidays).The exemption amount will be either Rs. 3 lakhs or 10 months of leave encashment whichever is lower.
So, if you have five months leave available at the time of retirement and the ten months’ average of your salary is Rs. 50,000, then you can claim the lower of Rs. 2.5 lakhs (Rs. 50,000 x 5 months) or Rs. 3 lakhs i.e. Rs. 2.5 lakhs as exempt from tax.
Being aware of the amount income tax after retirement that you need to pay against the benefits will ensure you can maximize savings and minimize legal and financial complications when beginning your retired life.
