The government has doubled the limit of provident fund (PF) contributions on which interest income will remain non-taxable, providing significant relief to a considerable number of middle- to high-income earners. While the minister of finance suggested in Budget FY22 to tax interest income on employee contributions above Rs 2.5 lakh during a year, the government proposed raising the limit to Rs 5 lakh in amendments to the Finance Bill, 2021. Beginning April 1, 2021, this may apply to all or any contributions.
“Provided further that if such person’s contribution is during a fund to which no contribution is formed by such person’s employer, the provisions of the primary proviso shall have the effect as if the words ‘two lakh and fifty thousand rupees had been substituted for the words ‘five lakh rupees,’” states an amendment to the Finance Bill 2021.
The government proposed in its Budget proposal last month to “limit tax exemption for interest income earned on employees’ contributions to varied provident funds to an annual contribution of Rs 2.5 lakh.” The choice to boost the annual limit on EPF contributions with tax-exempt interest income from 2.5 lakh to five lakh would make sure that people receiving an annual basic salary of up to Rs 41.6 lakh or a complete salary of around Rs 83 lakh (if basic is 50% of CTC) are covered.
This means that if a private company contributes up to Rs 41,666 to the workers’ provident fund during a month (Rs 5 lakh during a year), there’ll be no tax on the interest payments. However, if the donation exceeds that quantity, the interest earned on the surplus contribution is going to be taxed. Individuals with a monthly basic salary of quite Rs 3, 47,216 will now be suffering from the change because their annual EPF contributions (at a rate of 12% of basic salary) will surpass Rs 5 lakh.
So, if a private company spend Rs 12 lakh during a year, the tax on interest income of Rs 7 lakh would be applicable (Rs 12 lakh -Rs 5 lakh). While the interest income of Rs 7 lakh is going to be Rs 59,500 (at an EPF rate of interest of 8.5%) and therefore the tax owed is going to be Rs 18,450. (At a marginal rate of 30 per cent). This exemption, however, is subject to the condition that the contribution of up to Rs 5 lakh doesn’t include employer contributions in more than the statutory limit of up to 12% of basic pay. This is able to apply to situations during which employers don’t contribute to an old-age pension.
In February, the govt justified its decision by claiming that it had discovered examples where some workers were contributing large sums to those funds while receiving tax breaks. The government recommended imposing a contribution threshold limit of Rs 2.5 lakh for tax exemption so as to exclude HNIs from the advantage of high tax-free interest income on their sizeable donations. However, it’s now been doubled to Rs 5 lakh.
Last month, the minister of finance said that “This fund is essential for the advantage of the workers and employers won’t be harmed by it… it’s just for large sums of cash that inherit it due to the tax advantages and therefore the guaranteed 8% return. Monthly, great sums of cash, up to Rs 1 crore, are poured into this. What should the monthly wage be for somebody who contributes Rs 1 crore to the present fund? So, for him to supply both tax breaks and an assured 8% return, we reasoned that this was probably not comparable to an employee earning around Rs 2 lakh.”
