Union Budget 2021 has proposed to levy income tax on interest earned on employee’s contribution towards the Employee Provident Fund – or EPF – if the sum is above Rs 2.5 lakh a year, or roughly Rs 20,800 per month.
“In order to rationalise tax exemption for the income earned by high income employees, it is proposed to restrict tax exemption for the interest income earned on the employees’ contribution to various provident funds to the annual contribution of Rs 2.5 lakh,” Finance Minister Nirmala Sitharaman said on 1 February, during the Budget speech.
How will this impact salaried taxpayers? What should you know about EPF?
Who gets EPFO benefits?
The EPF, or simply PF, is a fund collected by a statutory body established by the Employees’ Provident Fund Miscellaneous Provisions Act, 1952, which benefits employees after retirement.
This scheme is available for those working in companies registered under the EPF. Every month, both employees and the employers contribute 12 percent of the employee’s basic salary and dearness allowance salary towards the employee’s PF account.
Six crore account holders received an 8.5 percent interest on their EPF contribution in the last financial year, according to
Who will be affected by this move?
While this is indeed a blow to salaried people, Sitharaman said the new tax is for the “big ticket money” people, not the average workers.
However, experts are worried that this would reduce the benefits of tax savings, and combined with the new Wage Code, also end up reducing retirement savings.
Since only the interest earned on contributions beyond Rs 2.5 lakh annually to the PF will be taxed, it is obvious that this move will affect people with a high basic salary – of about Rs 1.73 lakh per month.
But, let’s look at the different scenarios in which it can impact people with a lower basic salary as well.
Impact of New Wage Code Combined With EPF Tax
According to the new definition of wages, as part of the Code on Wages, 2019, passed by Parliament, which is likely to come into effect from 1 April, the government has proposed to increase the employee’s contribution to PF.
But in order to abide by the new rules, the employers will have to raise the basic salary of the employee on which the EPF is calculated.
So, for those having basic salary a little lower than Rs 1.73 lakh per month, what this entails is that, because of the new Wage code, the employee not only takes a reduced in-hand salary home, but with their PF contribution crossing Rs 2.5 lakh, the EPF tax will also reduce their savings.
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Impact on VPF Contributors
A report by The Economic Times also points out that those with a lower basic salary can be impacted due to contributions to the Voluntary Provident Fund (VPF).
The VPF is a voluntary contribution option with similar benefits as the EPF, available for salaried employees. The maximum limit for VPF contribution is 100 percent of the basic salary.
Let’s assume that an individual contributes equally to the EPF and VPF, that is 24 percent of their basic salary. In this case, even if their total contribution exceeds Rs 20,000 per month, they won’t be taxed so long as their basic salary is under Rs 1.73 lakh.
But if their basic salary is more than that or if they are “contributing more than 12 percent towards VPF, then you will have to either reduce your VPF contribution or pay the income tax as per the new rule,” the report points out.
Why was the decision taken?
So far, despite changes in tax regimes, the EPFO contributions were left untouched by governments.
But, speaking at the post-Budget press conference, Sitharaman explained that while the government had exempted PF contribution from being taxed in a bid to help workers, it was also felt that not taxing high amounts of contribution may not be fair.
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