The much-awaited clarity on taxation of EPF contribution above Rs.2.5 lakh is finally notified by CBDT on 31st August 2021. It even cleared the dust of what I also assumed. Let us see these clarifications in detail.
Finance Minister in Budget 2021, announced that any contributions from an employee over and above Rs.2.5 lakh are taxable income. I have written an article in this regard (Refer – EPF contribution above Rs.2.5 Lakh Taxable )
The reason quoted during the Budget 2021 is as below.
“Instances have come to the notice where some employees are contributing huge amounts to these funds and entire interest accrued/received on such contributions is exempt from tax under clause (11) and clause (12) of section 10 of the Act”
Let us take two examples. Assume that your monthly contribution is Rs.20,000. This means your yearly contribution is Rs.2,40,000. This is below the Rs.2,50,000 limit. Hence, the interest earned on this contribution is as usual tax-free.
However, assume that you are contributing another Rs.10,000 (as VPF) along with a default Rs.20,000 monthly contribution. Then the yearly contribution will be Rs.2,40,000 (default EPF contribution) and Rs.1,20,000 (VPF contribution). So in total, you have contributed Rs.3,60,000, which is above Rs.2,50,000 limit set during this budget.
Hence, the interest earned up to Rs.2,50,000 is tax-free. Interest earned on the remaining Rs.1,10,000 is taxable for you. You have to pay the tax on it as per income tax slab (Refer to the latest Income Tax Slab at “Latest Income Tax Slab Rates for FY 2021-22 / AY 2022-23 | Budget 2021 Key Highlights“.
Taxation of EPF contribution above Rs.2.5 Lakh – CBDT Clarification
After this Budget announcement, there was confusion that whether whatever interest earned on an employee contribution of over and above Rs.2,50,000 will be taxed only on that year or interest earned on subsequent year’s interest is also taxable (like Bank FDs).
As there was no clarity from Finance Ministry and CBDT, I also assumed that first-year interest is only taxable but subsequent years earning on such compounding is not taxable.
However, CBDT clarified this confusion and notified as below.
From now onwards you have two EPF accounts.
a) Non Taxable EPF contribution account-
This account is the balance of all the below-mentioned balances.
- Closing balance of your EPF account as on 31st March 2021.
- Any contribution which you make every year which is less than Rs.2,50,000 a year and your employer EPF contribution.
- Interest earned on such employee and employer share.
b) Taxable EPF contribution account-
- Any contribution above Rs.2,50,000 a year by an employee from FY 2021-22 onwards.
- Interest earned on such contribution on yearly basis.
Now from this taxable EPF contribution account, whatever the interest you earn on yearly basis is taxable for you like Bank FD. Let me give you an example.
Let us assume in this account the opening balance from FY 2021-22 is Rs.1,00,000. Assumed that EPF credited Rs.8,000 as interest on this ( @ 8%), then you have to pay the tax as per your tax slab under the head of “Income from Other Sources”. If you are falling under the 30% tax slab, then you have to pay Rs.2,400 interest on this income.
From the subsequent years also, whatever the yearly interest you earn from this account is taxable as per your tax slab. Hence, you may treat this account as if FD account.
Let me explain the same with the below image for your better understanding.
Is it still better to invest more than Rs.2.5 lakh in EPF?
In my view, YES and NO. Because after this CBDT clarifications, it is evident that taxation is huge on such higher contributions. Earlier I wrote a post that it is still BETTER mainly because of no clarity from CBDT on the taxation of such accounts from subsequent years (Investing more than Rs.2.5 Lakh in EPF is still the BEST strategy!!).
The current high-interest rate of EPF (currently at 8.5%), which no other fixed instruments offering you safely. Hence, compared to other debt products available (FDs or Debt Funds), I feel it is worth continuing.
However, going forward if interest rates fall drastically, then your money will get locked with high default taxation you have to pay on yearly basis.
Hence, the alternatives now in front of us are like using Gilt Constant Maturity Mutual Funds (use them only if your retirement is more than a decade), increasing your PPF contribution (by opening the account in your spouse name) or use NPS Tier 2 account by selecting maximum exposure towards Government Securities.
However, do remember that in the products like Gilt Constant Maturity Mutual Funds or NPS Tier 2 Government securities, volatility to interest movement is high. You are just avoiding the default or downgrade risk. But volatility due to interest rate movement is there always. Hence, take a call based on your risk appetite.
Any other alternatives? Let me know, please 🙂
My question was to ask that let say rs. 50000/- was intrest as per taxable table. Now employer maintained trust eg XYZ(PSU) PF TRUST will deduct TDS under section 194a i.e 10% or 192b i.e slab rates..
What i understand is that individual need to pay tax on such interest income as per slab rate only while filing ITR..
What i am looking from u is to understand what section of TDS is to be levied by XYZ PSU PF TRUST..
Dear Rajesh,
There is no clarity that the employer has to deduct the TDS on such accrued interest. Because as per current law, TDS applies only if you are withdrawing the EPF.
Now, irrespective of which section, assume that the employer deducted the TDS. Your tax liability will not end there. You have to show it in ITR and at that time as per your tax slab, you have to pay the tax.
Which section 194a or 192b
Dear Rajesh,
There is no concept of TDS here in EPF taxation on yearly contributions going beyond Rs.2.5 lakh a year.
Dear Sir if someone having NPS facility means his/her contribution is in NPS account but he/she open PPF account this contribution is below 2.5 lacs. Sir this rule will applicable here??
Dear Ravindra,
This rule is only for EPF but not for NPS or PPF.
Hi sir,
Please clarify if this 2.5 lakh mentioned is inclusive of both employee and employer PF contribution.
Dear Sampath,
I have already clarified that it involves only employee share and VPF part which employees contribute but not employer share.
2.5Lincludes employer contribution or only pf contribution of employee and vpf?
Dear Dipak,
It is only employees’ EPF and VPF contributions.
Still not very clear.
Let say Taxable account contribution is 50000 (beyond 2.5L) then assuming with 8% interest on EPF 4000 is the Interest and will be part of “Income from Other Source” and Taxes to be paid separately on this.
For Next year in Taxable account opening balance would be 50000+4000=54000.
Now interest on 50K would be taxable or interest on 54K?
In case of 50K – will 4K be moved to non-taxable account?
If entire 54K is considered as opening balance for next year in Taxable account and then Interest on this is Taxable it Effectively means Tax on Tax – out of 4K interest earned in previous year – anyone with 30% bracket will have paid 1200 as extra Tax as “Income from other Source” and in next year he has to pay Tax on this Rs 1200.
Dear Ashish,
As I have already cleared, the interest from whatever you earn from such segregated taxable account will be taxable on yearly basis. Hence, in your example, the taxation will be on whatever you earn on Rs.54,000 + The interest income that you earn from that particular year contribution. Hence, it is TAX ON TAX from subsequent years (like FDs).
Why is it that for govt. employees they have a higher limit of 5.0 lakh. For private sector and others it is 2.5 lakh. This is completely unfair. Is any representation good ven by anyone for this? I think people should fight for getting benefits at par with govt. employees
Dear Pradeep,
The biggest burden is giving you 8.5% tax-free returns. Easy to say hard to manage. Hence, the Government changed this rule.
what is the burden in it? why is it hard to manage? If gov. feel it is burden then they also should think about how they are wasting peoples money like central vista and many more useless project. Do you know how much is the budget allocated to president’s office renovation…its 80 cr. do you really think this kind of money wasting justify? Government wasting people money as if their fathers money. people are paying tax indirectly even for 1 Rs. candy in the name of GST. Its easy to say gov. don’t have money but its hard to find where it gone.
Dear Sachin,
I don’t want to comment on political issues. My point is for anyone committing 8.5% guaranteed tax-free return is nothing but a LIABILITY. Easy for you to say and blame.
Thanks for sharing in-detailed manner. Appreciate your efforts.
Dear Anil,
My pleasure 🙂
I think a very detailed and clarificatory explaination on the taxability of EPF contribution above Rs. 2.5 lakh per annum. And the end advice that one may continue with the contribution even if the interest earned is taxable is also welcome and laudable because one may consider their goal based/retirement based asset allocation approach and may treat this above 2.5 lakh contribution as a “debt” portion of the asset allocation. From where will you find absolute safe and automatic accrual at 6% (post 30% tax slab).
Dear Kamal,
True and that’s what my point is also. However, the only risk is if there is a further downfall in the interest rate of EPF.
Sir
What is the situation where contribution to GPF is less than 4.5lakhs and the contributions to PPF is 1.5 laks.
Are they clubbable or each of the provident fund is considered independently for the exemption
Dear Srinivasan,
This rule is applicable to EPF only. In the case of GPF, as there is only a contribution from employee, this set of Rs.2.5 lakh limit is not applicable. PPF maximum limit itself is Rs.1.5 lakh and which can be claimed under the Sec.80C limit. Hence, the above-shared contributions by you are tax-free.