“Pension” is a payment made by an employer to his tired or ex-employee in consideration of the services ordered by him in the past during his employment with the employer   or   in   his   organization. Such payment can be either periodic (uncommuted) or lump sum (commuted).

Income Tax Act 1961 (the Act) provides the taxability of pension depending on whether the pension received is periodical or lump sum.

• Uncommuted Pension (Periodical Payment) is fully taxable as salary under section 15 of the Act in the hands of government as well as non-government employees.
• Commutation of Pension means payment of lump sum amount in lieu of a portion of pension surrendered voluntarily by the pensioner based on duration of period in relation to the age. This is purely an optional facility provided by the employer to his employee. As per the Act following rules are applicable for the taxability of commuted pension:

(i)     Any commuted pension (i.e Lumpsum Pension) received by an employee of the Central Government, State Government, Local Authority or Statutory corporation is wholly exempt from tax

(ii)     Payment in commutation of pension received by any other employee:

(a)     in a case where the employee receives any gratuity, the commuted value of one-third of the pension which he is normally entitled to receive is exempt from tax.

(b)   in any other case, the commuted value of one-half of such pension is exempt from tax.

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