What is Pension, Its Types & Is it Taxable?

What is Pension, Its Types & Is it Taxable?

What is a pension?

A pension is a retirement fund for an employee paid into by the employer, employee, or both, with the employer usually covering the largest percentage of contributions. When the employee retires, she’s paid in an annuity calculated by the terms of the pension. Pension funds are far less common than they used to be, with labor unions and public employees making up the vast majority of pension holders.



Deeper Definition

Pensions are paid as an annuity, meaning over a regular, fixed period, to retired employees of an organization as compensation for past employment with that organization.

The two most common pension types are called a defined-benefit plan and a defined-contribution plan. Both plans are paid out in retirement, but they differ in the formulas used to define contributions and payouts upon retirement.

Pension Example

Manufacturing used to be one of the bedrocks of the American economy, employing millions of people over time. Many of these workers were part of labor unions and were promised pensions after they retired. However, advances in technology and generous free-trade agreements significantly reduced the workforce. As workers retire, however, and no new ones are brought on to take their place, the pension funds they rely on to live off of in retirement are starting to dwindle.

Are Pensions Taxable?

Pension is taxable under the head salaries in your income tax return. Pensions are paid out periodically, generally every month. However, you may also choose to receive your pension as a lump sum (also called commuted pension) instead of a periodical payment.

Latest Update

It has been proposed to exempt senior citizens from filing income tax returns if pension income and interest income are their only annual income source. Section 194P has been newly inserted to enforce the banks to deduct tax on senior citizens more than 75 years of age who have a pension and interest income from the bank.


Commuted and Uncommuted Pension

Generally, the employer and taxpayer contribute together to an annuity fund, which pays the taxpayer pension out of the fund. At the time of retirement, you may choose to receive a certain percentage of your pension in advance. Such pension received in advance is called commuted pension. For example, at the age of 60 years, you decide to receive 10% of your monthly pension in advance for the next 10 years worth Rs 10,000. This will be paid to you as a lump sum. Therefore, 10% of Rs 10000x12x10 = Rs 1,20,000 is your commuted pension. You will continue to receive Rs 9,000 (your uncommuted pension) for the next 10 years until you are 70 and post 70 years of age, you will be paid your full pension of Rs 10,000.


Taxability of Commuted and Uncommuted Pension

  1. Uncommuted pension or any periodical payment of pension is fully taxable as salary. In the above case, Rs 9,000 received by you is fully taxable. Rs 10,000, starting at the age of 70 years, are fully taxable as well.
  2. Commuted or lump sum pension received may be exempt in some instances.
  1. For a government employee, commuted pension is fully exempt.
  2. For a non-government employee, it is partially exempt.

  1. If gratuity is also received with a pension – 1/3rd of the amount of pension that would have been received, if 100% of the pension was commuted, is exempt from commuted pension and remaining is taxed as salary.
  2. And in case only pension is received and gratuity is not received – ½ of the amount of pension that would have been received, if 100% of the pension was commuted, is exempt.

Report pension income in ITR

How to report pension income and employer details in the income tax return?

  1. In the ITR, you have to choose the ‘Pensioners’ option in the field ‘Nature of Employment’ under the salary schedule.
  2. Pension income taxable as ‘salary’ has to be reported by mentioning the name, address, tax collection account number (TAN) of the employer and the tax deducted (TDS) thereon. The specific limit on the pension amount exempt from income tax must be reported as ‘Commuted Pension’. Any excess amount must be reported as ‘Annuity Pension’ under ‘Salary under Section 17(1)’ of the Income Tax Act, 1961.



The commuted pension, exempt from taxes, must be entered in the field ‘Any Other’ under the
‘Nature of Exempt Income’. And mention details in ‘Description’ and the amount of commuted
pension.




Pension received by a family member

Pension received by a family member is taxed under the head ‘income from other sources’ in family member’s income tax return. 
  1. If this pension is commuted or is a lump sum payment, it is not taxable. 
  2. Uncommuted pension received by a family member is exempt to a certain extent. Rs. 15,000 or 1/3rd of the uncommuted pension received – whichever is less is exempt from tax.
For example – If a family member receives a pension of Rs 1,00,000, the exemption available is least of – Rs 15,000 or Rs 33,333 (1/3rd of Rs 1,00,000). Thus the taxable family pension will be Rs.85,000 (Rs 1,00,000 – Rs 15,000)


Pension that is received from UNO

Pensions that are received from UNO by its employees or their family is exempt from tax. Pension received by family members of armed forces is also exempt.



For more info visit TAXAJ
Posted by Ramesh Kumar Gupta



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