The budget’s new tax on interest from Provident Fund contributions above Rs 2.5 lakh a year has taken some sheen off this tax-free haven, but the VPF is still among the best fixed income options. Here’s why.
Transcript
Hi everyone and welcome to episode 108 of the ET Wealth Wisdom podcast
The finance minister presented the Union Budget on February 1
Belying huge expectations, did not provided any income tax relief to tax payers.
No changes in income tax slabs or rates have been proposed.
Nor have any additional tax exemptions or deductions been introduced.
Standard deduction for the salaried and pensioners also remains same as before.
No change in tax rates or slabs means that your income tax payout is, for most people, unaffected by this Budget.
But if your salary’s high or you use voluntary provident fund contributions, there’s a bit of bad news for you.
From April 1, returns on investment of more than Rs 2.5 lakh in two of the most popular instruments – provident fund and unit linked insurance plan (ULIP) – will be taxed.
So far, returns on investment of any amount in VPF, along with EPF and ULIP, are tax-free on maturity.
With this amendment, return on investment up to Rs 2.5 lakh in PF will remain tax-free while the return on the portion exceeding that amount will be treated as income in the investor’s hand.
This portion will be taxed at the rate at which the investor’s income is taxed
The budget’s new tax on interest from Provident Fund contributions above Rs 2.5 lakh a year has taken some sheen off this tax-free haven, but the VPF is still among the best fixed income options writes Babar Zaidi of ET Wealth
In this podcast, we will see why the VPF is still one of the best fixed income options
Only the PPF offers higher interest than the VPF. But PPF has an investment limit of Rs 1.5 lakh in a year. If you want to invest more, the VPF is your best bet, writes Babar.
He writes that in the 30% tax bracket, it would still give 5.85% returns, which is higher than what other fixed income options offer.
This calculation assumes that the EPF rate will remain at 8.5%.
While the pre-tax VPF rate is higher than what PPF offers, the Post Office scheme has some other unmatchable benefits.
Unlike the VPF, PPF accounts can be extended beyond retirement in blocks of five years. You can also make partial withdrawals from the corpus.
In case of the VPF, the account becomes inoperative and stops earning interest if not withdrawn within three years of retirement.
Investors who commit heavily to the VPF and are worried by the proposed tax, this is what Babar writes in his article:
Subtract your mandatory contribution to the Provident Fund from Rs 2.5 lakh to know how much you can contribute to the VPF without attracting tax.
Beyond the Rs 2.5 lakh tax exemption limit, go for the PPF where your investments will fetch higher returns and remain tax-free.
If you still have more to invest after exhausting the Rs 1.5 lakh PPF investment limit, put the remaining in VPF.
For many investors, VPF offers convenience and safety. The money gets deducted from the salary itself, and PF comes with government guarantee, he writes.
Even with a tax, it remains a good option for high income earners with very low risk appetite.
However, some financial experts warn investors against binging on fixed income.
They say investors should reduce the VPF contribution to Rs 2.5 lakh and invest the rest in NPS.
Want to know why the FM is eyeing your PF with interest?
The revenue secretary Ajay Bhushan Pandey in an interview with ET said that the decision to remove the tax exemption on provident fund contributions of Rs 2.5 lakh and above in the budget was based on the principle of equity
“Any tax exemption is taxpayers’ money- assured return being given is again coming out from the taxpayers’ money. The question is those who are depositing higher, should they be given the tax concession at the cost of another taxpayer?” Pandey said.
And on that note, that will be all for this week
Come back next week for more wealth wisdom
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