Employees Provident Fund: Taxable and Non-Taxable Accounts
Employees’ Provident Fund Account was formed by the Government of India. It is a statutory body and the main purpose of EPF is to encourage people to save for retirement. It is the largest social security organisation in India.
Both the employer and the employees contribute to the EPF account. It was considered to be an EEE benefit scheme. Meaning that the contributions made, the interest earned thereon and the cumulative balance received at the end of tenure all are tax-exempt. However, the interest earned on the employee’s contribution over Rs. 2.5 lakh is now taxable. For salaried employees with higher packages, it’s a discouraging move. In Budget 2021, Finance Minister Nirmala Sitharaman decided to tax interest earned on annual Employees’ Provident Fund contributions in excess of Rs 2.5 lakh, the limit is Rs 5 lakh for government employees. The latter limit covers around 93% of the people who are subscribers of EPFO. They will get tax-free interest as per the interest rate every year as announced by the EPFO.
Currently, the rate of interest earned on EPF is the lowest in its history. Before the employees who fell in the higher tax brackets used this account to get EEE benefits. But since now the contributions have been capped, the route to tax saving has been subjected to limits with effect from April 1st, 2022. The amendment is meant to bar people from taking advantage of government welfare schemes from now onwards.
What does the new rule say?
The interest earned on the EPF account shall now have to be bifurcated under two heads. A part of it is not taxable, and the other one is. The former refers to the older contributions when a complete tax exemption was allowed on all of them. The latter includes the contributions made after the above ruling came into effect as per new rules.
The Central Board of Direct Taxes has issued rules that specify maintaining two separate accounts within the PF account from 1st April 2022. Hence, all the contributions made until the date 31st March 2021 shall be treated as non-taxable contributions. Contributions made during the FY 2021-22 shall fall within the purview of the new rules. A new section 9D has been introduced in the income tax rules to implement the new tax on provident fund accounts. The interest on all the preceding years shall be non-taxable and it will be treated under the ‘non-taxable’ account.
In this article, we will try to understand the difference between EPF’s taxable and non-taxable accounts along with the charts that give a clearcut idea of how the latest amendment is going to affect the interest earned.
Before we proceed further, let us have a look at a few important points:
- Employee Provident Fund is a retirement benefits scheme for salaried employees.
- Every factory/organisation having 20 or more employees must register under the EPFO. Those with lesser than 20 employees can do so voluntarily.
- The organisation should enrol all the eligible employees on its rolls irrespective of whether they are regular or contractual drawing wages up to Rs. 15,000 at the time of joining the EPF.
- The employee is required to contribute to the fund opted for by the employer. The employees themselves cannot register on their own. Those drawing a salary of more than Rs. 15,000 can do so with the consent of their employer.
- The employee has to make a contribution equal to 12% on the basic salary and the dearness allowance of Rs. 1800 whichever is lower. The employer must make an equal contribution. Paying a minimum contribution of Rs. 1800 can leave the employee with a higher in-hand salary. But the majority of the employers choose the other option. An organisation with less than 20 employees has to make an EPF contribution of 10% instead of 12%.
- The interest is credited at the end of the year. After retirement, the employee will get a lump-sum amount including the contributions made by both the employer and the employee.
- The employer contributes 12% of basic salary and dearness allowance to EPF. 8.33% of the employer’s contribution goes to Employees Pension Scheme. This scheme earns no interest.
Subsequent to the amendment made in the Budget 2021, TDS shall be applicable at the rate of 10 percent in such cases while crediting the interest on an employee’s contribution above Rs. 2.5 lakh during the financial year. TDS is equally applicable in the case of final settlement, transfer claims, transfer from exempted establishments to EPFO and vice-versa and past accumulations transfer, at the time of annual accounts processing, etc of EPF.
The rule is made specifically for the contributions made by the employee and it does not apply to the contributions made by the employer. An employee might choose to make a higher contribution via VPF, but the employer is not bound to do so. The VPF contributions made by the employee shall also be included while considering the threshold limit of Rs. 2.5 lakh.
What is a non-taxable account?
A non-taxable EPF account refers to the accumulated balance made up of contributions made by the employer and the employee as of 31st March 2021. The interest earned on this balance is tax-free and shall not be included for the purpose of calculation of taxes on the contributions made by the employee above Rs. 2.5 lakh.
The EPF statement will be divided into two parts, taxable and non-taxable accounts. If your annual contribution to EPF/VPF does not exceed Rs. 2.5 lakh, then it shall form part of the non-taxable account as well.
Further, though the interest on the EPF account is credited on an annual basis, the segregation between taxable and non-taxable contributions and interest thereon will be done on a monthly basis because the EPF accounts are maintained on a monthly basis.
For example, if you contribute Rs. 25,000 every month to your EPF account, you will exhaust the upper limit threshold of Rs. 2.5 lakh in February 2021. The interest earned on the contributions made in the month of February and March shall be liable to tax. The bifurcation will be made by the EPFO once the limit is crossed anytime during the year. So neither the employee nor the employer needs to worry about the same.
Here is a table showing what the non-taxable and taxable interest will look like considering the above example.
| Period | Monthly Contributions(Rs.) | Cumulative balance at the end of the month in | Interest accrued @ 8.1% in | ||
| Non-Taxable Account | Taxable Account | Non-Taxable Account | Taxable Account | ||
| Apr 21 | 25,000 | 25,000 | 169 | ||
| May 21 | 25,000 | 50,000 | 338 | ||
| June 21 | 25,000 | 75,000 | 506 | ||
| July 21 | 25,000 | 1,00,000 | – | 675 | |
| August 21 | 25,000 | 1,25,000 | – | 844 | |
| Sept 21 | 25,000 | 1,50,000 | – | 1013 | |
| Oct 21 | 25,000 | 1,75,000 | – | 1181 | |
| Nov 21 | 25,000 | 2,00,000 | – | 1350 | |
| Dec 21 | 25,000 | 2,25,000 | – | 1519 | |
| Jan 21 | 25,000 | 2,50,000 | – | 1688 | |
| Feb 21 | 25,000 | 2,50,000 | 25,000 | 1688 | 169 |
| March 21 | 25,000 | 2,50,000 | 50,000 | 1688 | 338 |
| Total | 3,00,000 | 2,50,000 | 50,000 | 12,659 | 507 |
The Mechanism of Taxable EPF Accounts
Once the contributions made to the EPF/VPF accounts cross the limit of Rs. 2.5 lakh, the excess contribution shall be taken to the taxable account, along with the interest thereon. The interest earned on the excess contribution will be liable to tax.
The taxable account will attract tax not only for the year of contribution, but it will continue to be taxed for the subsequent years as well, as the interest amount becomes taxable.
As per the CBDT notification ‘taxable interest under sub-rule(1), “ separate accounts within the provident fund account have to be maintained during the 2021-22 fiscal and all subsequent previous years for taxable contribution and non-taxable contribution made by a person.”
This means that the non-taxable contribution will be the closing balance of the PF account till March 2021 together with any contribution made by an employee in the current fiscal and in later years but is within the limit of Rs. 2.5 lakh or Rs. 5 lakh and also the employer’s contribution.
The EPFP deducts tax at the rate of 10% before crediting the interest into your account in such a case. However, for that your PAN details are required. In absence of availability of PAN, the tax will be deducted at double the rate. This has been shown via the table given below.
| Particulars | Non-Taxable account (Rs.) | Taxable Account (Rs.) |
| C/B as on 31.03.2021 | 40,00,000 | – |
| Contribution during the year | 2,50,000 | 50,000 |
| Interest accrued during the year | 12,659 | 507 |
| Total amount available in each account at the end of the year(C/B for 2021-22) | 42,62,659 | 50,507 |
| TDS on Interest to be deducted by EPFO- @10% (Where PAN available) | 0 | 51(10% of Rs.507) |
| Opening Balance as on 01.04.2022 | 42,62,659 | 50,456(CB-TDS) |
| TDS on interest to be deducted by EPFO- @20% (where PAN not available) | 0 | 101(20% of 507) |
It is assumed that the EPF account had an opening balance of Rs. 40,00,000.
Accounting of the Withdrawals and its Taxation Effect
If the employee who is contributing Rs. 25,000 every month decides to withdraw Rs. 2.75 lakh in the month of March, then as a total of Rs. 3,00,000 have already been contributed, the deduction will first be applied against the taxable account. This way the tax impact will be lesser for the employee. The withdrawal is made from the taxable account first and once that’s exhausted, it goes to the non-taxable account. The non-taxable account had a balance of Rs.2,50,000 and the taxable account had a balance of Rs 50,000 in the month of March. (The contributions are made at the beginning of the month). Rs. 225,000 will be withdrawn from the non-taxable account and Rs. 50,000 from the taxable account.
| PeriodMonthly Contribution | Cumulative balance at the end of the month in | Interest Accrued @ 8.1% in | |||
| Non-Taxable Account(Rs) | Taxable Account(Rs) | Non-Taxable Account(Rs) | Taxable Account(Rs) | ||
| Apr 21 | 25,000 | 25,000 | 169 | ||
| May 21 | 25,000 | 50,000 | 338 | ||
| June 21 | 25,000 | 75,000 | 506 | ||
| July 21 | 25,000 | 100,000 | 675 | ||
| Aug 21 | 25,000 | 125,000 | 844 | ||
| Sept 21 | 25,000 | 1,50,000 | 1013 | ||
| Oct 21 | 25,000 | 1.75,000 | 1181 | ||
| Nov 21 | 25,000 | 2,00,000 | 1350 | ||
| Dec 21 | 25,000 | 2,25,000 | 1519 | ||
| Jan 21 | 25,000 | 2,50,000 | 1688 | ||
| Feb 21 | 25,000 | 2,50,000 | 25,000 | 1688 | 169 |
| March 21 | 25,000 | 2,50,000 | 50,000 | 1688 | 338 |
| Withdrawal | 2,75,000 | -2,25,000 | -50,000 | ||
| Total | 3,00,000 | 25,000 | 0 | 12,659 | 507 |
The course of action at the end of the employee at the time of filing Income Tax Return
The EPFO will deduct the tax amount from the interest which is taxable. And the responsibility to bifurcate the taxable and non-taxable accounts also is on the EPFO. so the employees are relieved to that extent. But, the EPFO will consider TDS at the rate of 10% only. If you fall into a higher tax bracket, then you shall have to pay the rest of the tax amount on the basis of your total tax. An employee might have to pay the additional tax due to this. The procedure is applicable in the case of interest earned on bank fixed deposits. The interest thus earned falls under the category’ Income from other sources. The tax-payer has to pay on an accrual basis depending upon their respective tax slabs.
The TDS withheld by the EPFO will be shown in the annual information statement. The same has to be used while filing the ITR forms. If tax is not paid, despite an individual being liable to do so, will lead to inquiries by the Income Tax Department.
If the employees have not furnished their PAN, the TDS will be at the rate of 20% and for non-resident employees, it will be even higher, at 30%.
There are almost 1,23,000 high-income earning people in India who earn more than Rs. 50,00,000 every year in tax-free interest on an average front of the PF. These individuals are just 0.27% of the total of 4.5 crore EPF account holders in the country.
How to do Calculation of non-taxable contribution: A stepwise guide
You can use the below-mentioned formula for arriving at the non-taxable Provident Fund contribution:
Step 1-Take the Aggregate of the following:
- Closing balance in the account as of 31 March 2021.
- Any contribution made by the employee in the account for each financial year starting from F.Y. 2021-22 is non-taxable, if it is below Rs.2.5 lakh in the case of private and Rs.5 lakh threshold in case of government employees, as the case may be.
- Interest accrued on the closing balance as of 31 March 2021, as well as interest accrued on the non-taxable contribution for each financial year starting from F.Y. 2021-22.
Step 2-Reduced by withdrawal from such an account.
Calculation of non-taxable contribution = The amount arrived at in step (1) Less (2)
Calculation of taxable contribution
The below-mentioned formula can be used to arrive at the taxable Provident Fund contribution:
1. – Aggregate of the following:
- Any contribution made by the employee in the account for each financial year starting from F.Y. 2021-22 is taxable, that is above Rs.2.5 lakh or Rs.5 lakh threshold, depending on the employee being in a private or public sector.
- Interest accrued on the taxable contribution for each financial year starting from F.Y. 2021-22.
2. – Reduced by withdrawal from such an account.
Calculation of taxable contribution = Amount arrived at in (1) Less (2)
The maximum limit for non-taxable Provident Fund contribution for employees where the employer does not contribute is Rs.5 lakh (as amended). In all other cases, the capping is fixed at Rs.2.5 lakh.
Let us understand this using an example.
Illustration
Mr X has a P.F. balance of Rs. 4,50,000 (including interest) as on 31 March 2021. He works with a private company and has contributed Rs.3,50,000 (total contribution) into the P.F. account in F.Y. 2021-22. Assuming an interest of 8.1% is received on the contribution made.
What will be his taxable as well as a non-taxable contribution for F.Y. 2021-22?
Answer:
Let us bifurcate the contribution into taxable as well as non-taxable.
| Particulars | Non-taxable contribution | Taxable contribution |
| Closing balance as on 31 March 2021 (including interest accrued) | 4,50,000 | |
| Contribution made in FY 2021-22 | 2,50,000 | 1,00,000 |
| Interest accrued for FY 2021-22 | 20,250* | 8,100* |
| Total | 7,20,250 | 1,08,100 |
*It is assumed that the deposit in the EPF account is made at the start of the financial year.
Conclusion
The points discussed in the above article throws light on various aspects involved while calculating the taxable and non-taxable part of an EPF account. EPF is a very important investment tool to contribute toward the retirement corpus. However, the affluent employees took unfair advantage of this account and earned tax-free interest thereon. The finance minister excluded those employees by implementing a new set of rules. The EPFO is responsible for bifurcating the accounts and crediting the interest thereon. This will relieve the employers and the employees from the burden of making calculations.
Also, the applicable TDS will be deducted by the EPFO wherever applicable. The balance amount of TDS shall have to be paid by the employee while computing the total taxable income. TDS shall be deducted at double the rate in absence of PAN details of the employee by the EPFO.
The withdrawals too shall be first effective against the taxable part so as to minimise the tax effect on that part. The illustrations given in the article clarify the various points explained here. The employees will not find it very hard to understand the entire mechanism once they go through all the particulars given here.
Bhoi Smrutirekha Dharanidhar