It is important for employees to be mindful of the tax implications associated with the PF withdrawal since this could significantly deplete their life-time savings.
With a corpus of over Rs 8.5 lakh crore, the Employees Provident Fund (EPF) scheme is one of the highly-preferred employee retirement benefit schemes. Under this scheme, both the employer and employee contribute 12 per cent of pay to the fund, which earns monthly cumulative interest at rates determined by the authorities. The interest rate for FY 2017-18 was 8.55 per cent.
From a tax perspective, the scheme is considered attractive since the employer contribution to the extent of 12 per cent of salary is not taxable. A deduction is available for employee contribution along with other eligible investments under section 80C of the Income Tax Act, within the overall ceiling of Rs 150,000. Interest accumulations on such balances are also tax-free. In other words, EPF contributions enjoy an Exempt-Exempt-Exempt (EEE) status since the contributions, accretions and withdrawals on retirement are tax exempt.
Withdrawal from Provident Fund is permitted under specified circumstances such as the marriage of self, children, purchase of property, among others. The entire PF contribution can be withdrawn where the employee resigns and remains unemployed for a period of 2 months or upon repatriation from India. It is important to understand that withdrawals from PF will be subject to taxation under certain circumstances. Further, in the case of employees who repatriate to other countries, it is important for them to check on the taxability of such withdrawals in overseas jurisdictions as well. The implications from an India taxation perspective are discussed below.
Taxability of PF withdrawal
Where the employee has been in employment for 5 years and the amount is withdrawn after the 5-year contributory period, the lump sum amount withdrawn is not taxable. Where the 5-year criteria is not met, the employer contributions and the interest earned on the account are taxable. The benefit of deductions for employee contributions availed in the past is also required to be reversed.
Such withdrawals are, therefore, subject to a tax withholding irrespective of whether the contributions were made to the Regional Provident Fund office (RPF) or to the PF trust maintained by the employer.
Taxable withdrawals from the RPF will be subject to tax withholding at 10 per cent if the Permanent Account Number (PAN) is provided, else tax will be withheld at the maximum marginal rate. No taxes will be withheld if the payment is less than Rs 50,000. Withdrawals from the employer trust will be subject to withholding at rates applicable to the employee.
There are certain situations where withdrawal before 5 years does not trigger taxation, e.g. where the service of the employee is terminated due to ill-health, discontinuance of employer’s business or any other reason beyond the control of the employee. Transfer of PF balances where the employee changes employment is not subject to tax.
Interest earned on PF post cessation of employment
Given the attractive interest rates, employees tend to retain the PF balances with the fund. An important aspect is the taxation of interest earned after cessation of employment. The Bangalore bench of the Income Tax Appellate Tribunal has recently held that the interest accumulated in the EPF account post cessation of employment is taxable.
Hence even if the contributory period is more than 5 years, such interest will be taxable and needs to be reported in the tax return.
Changes in tax return forms requiring increased details of PF withdrawal
As a measure of increased disclosure requirements, the tax return forms now require the tax payer to report the year-wise taxable amount of the PF withdrawals. Tax authorities are also approaching PF trusts to obtain information on interest credit to PF accounts post cessation of employment.
It is important for employees to be mindful of the tax implications associated with the PF withdrawal since this could significantly deplete their life-time savings. Some amount of planning around the timing can help them minimize the tax impact. Retaining documents such as PF statement, Form 16 etc. to support the disclosures in the event of a tax audit is also recommended.
(By Saraswathi Kasturirangan, Partner, Deloitte, and Sumit Jain, Manager, Deloitte Haskins & Sells LLP)