Your Employees’ Provident Fund (EPF) is likely to earn a lower interest rate for FY20 than in FY19, in line with the decision of the apex decision-making body of the Employees’ Provident Fund Organisation (EPFO). Mint analyses the impact on EPFO subscribers.
What is EPF and is it compulsory?
EPF is a social security scheme aimed at salaried individuals and is run by EPFO, which comes under the labour ministry. Organizations that employ 20 people or more need to offer EPF benefits to their employees. However, EPF is not compulsory for all employees. Only those who earn up to ₹15,000 a month have to contribute 12% of their basic salary plus dearness allowance to EPF. The employer contributes an equal percentage to the corpus. For those who earn above the threshold, contribution to EPF is optional. You can invest up to 100% of your basic salary plus dearness allowance under the voluntary provident fund.
What does a rate of 8.5% mean for you?
If the finance ministry approves the 8.5% rate for FY20—compared to 8.65% in FY19—it will be the lowest rate of interest earned by EPF subscribers since FY14, but it needs to be seen in the context of the falling interest rate regime that markets are witnessing. A 15 basis point drop from last year will hurt, but in an environment where interest rates on fixed income instruments are falling, the proposed rate cut is still attractive. The interest on Public Provident Fund is 7.9% and long-term (10 years) fixed deposits (FDs) get 6-6.5% return. The interest from FDs is taxable and that will pull the effective rate of return down.
How is an employee’s EPF contribution taxed?
The Employees’ Provident Fund falls under the exempt-exempt and exempt tax (EET) regime. This implies that the annual contribution made by the employee is tax deductible up to ₹1.5 lakh under Section 80C. The interest earned on it is also exempt, while there is no tax on the accumulated amount when it is withdrawn at the time of retirement.
What is the change in the 2020 budget?
In the 2020 budget, the Centre has proposed that if an employer contributes over ₹7.5 lakh in a year on an aggregate basis towards EPF, National Pension System (NPS) and approved superannuation funds, the amount above ₹7.5 lakh will be added as perquisite to income and taxed. Currently, the 12% that the employer contributes isn’t taxable in your hands. But this will not have much impact on a majority of salaried individuals. To cross the ₹7.5 lakh threshold, an employee must have an annual basic salary of over ₹62.5 lakh.
Does EPF fare better than other options?
As EPF enjoys an EEE taxation status and earns a rate higher than that of its peers, it’s one of the most preferred investment vehicles in the debt space to build long-term wealth for retirement. However, the salaried can consider other investment vehicles such as NPS or equity mutual funds. For long-term wealth creation it’s important to assess one’s asset allocation and use the right financial product to reach that goal. EPFO has started putting 15% of the incremental contributions to equity through the exchange-traded fund route.