The following article is based on my own interpretation of the said events. Any material borrowed from published and unpublished sources has been appropriately referenced. I will bear the sole responsibility for anything that is found to have been copied or misappropriated or misrepresented in the following post.
Yash Malani, MBA 2015-17, Vinod Gupta School of Management, IIT Kharagpur
The EPF is a retirement benefit scheme for salaried employees. It works as a savings instrument where a portion of your salary is put away into a fund. In most cases, 12% of your basic salary goes into the fund, with your employer also matching this amount and saving on your behalf. These funds are pooled together and invested by the Employee Provident Fund Organization, generating interest and building up a corpus that is due to you on your retirement. Right now, the EPF offers 8.8% returns, with more than 3.7 crore people subscribing to the fund.
The finance ministry’s decision to roll back its tax proposal on the Employees’ Provident Fund (EPF) has provided relief to millions of employees and restored the attraction of the retirement savings avenue.The 29 February budget had announced that only 40% of the total corpus withdrawn from the EPF and National Pension System (NPS) on retirement will be tax-exempt and the remaining 60% taxable unless the amount is used to buy an annuity product. Annuity provides you pension for life and that income is taxed at slab level. Basically this meant that, whenever you retire, the government will tax 60% of the savings you have put away in the EPF at a rate corresponding to your income-tax slab. Suddenly, from being a completely tax-free savings option meant to give you a lump sum on your retirement, the government said it would be taking away a hefty portion of your money. The move to impose tax on EPF withdrawals comes as part of concerted attempts by the government to disincentives investments in EPF against alternatives such as the National Pension System, which are more liberal in routing the corpus to stock markets. The salaried classes, including trade unions, were outraged. The move was called “unfair” and “morally wrong.” Most criticism pointed out that people who had steadily saved all their professional lives and put their money into a government instrument rather than, say, investing it into equities, should not have to suddenly part with a portion of that in taxes. On Tuesday, finance minister Arun Jaitley withdrew the budget provision that sought to tax withdrawals from the EPF, saying the government wanted “to do a comprehensive review of this proposal”. Making a suo motu statement in Parliament, Finance Minister Arun Jaitley also withdrew the Budget proposal of taxing employer’s contribution to provident and superannuation fund (SAF) beyond Rs 1.5 lakh.
However the provision allowing NPS subscribers to withdraw 40% of the corpus without any tax liability remains. This means that you pay a tax on 20% of the maturity corpus. And you pay a deferred tax on the 40% that you annuitize. With not only the maturity corpus taxable, but any contributions to the EPF by the employer over and above Rs.1.5 lakh taxable in the hand of the employee, the budget provisions had made EPF much less attractive in comparison with the NPS. But with EPF moving back to an EEE, or exempt-exempt-exempt, tax regime, it again becomes a popular choice.
The finance ministry’s clarification claimed it was making the change to “encourage more number of private sector employees to go for pension security after retirement instead of withdrawing the entire money from the Provident Fund Account.”
But the move is also seen from a few other angles, because of the government’s attempt to get more people to save through the National Pension Scheme – which invests funds in the equity markets, exposing them to market risks, but giving the government freedom to leverage the funds – than through the EPF, which relies on government securities.