A novel reversible data hiding algorithm with improved security, which can recover the original image in separable manner without any distortion from the marked image after the hidden data have been extracted, is presented in this paper. In the content owner side image is encrypted by key derived chaotic based transposition algorithm. The data hider then hides some data into the encrypted image by histogram modification based data hiding, making use of data hiding key. At the receiver side, if the receiver has only encryption key, then the decrypted image with high similarity with cover image can be obtained, but cannot read the hidden data. Lower bound of Peak Signal to Noise Ratio (PSNR) of this method is much higher than the existing methods (48.13dB). If the receiver has only data hiding key, then the hidden data can be extracted out, but cannot read the content of the image. If the receiver has both keys, he may first extract the data using data hiding key and then decrypt the image using encryption key. The method also has a higher data hiding capacity than the existing reversible data hiding techniques in encrypted image.