The fine print on the new income tax from the employee provision fund

The story so far: In the 2021-22 Union Budget, Finance Minister Nirmala Sitharaman introduced a new provision to tax income from provident fund contributions by workers over 2.5 lakh per year. An Employees’ Provident Fund (EPF) is mandatory for formal sector workers earning up to £15,000 a month in companies with over 20 employees to ensure retirement income. An amount equal to 12% of an employee’s base salary and carer’s allowance is deducted from their accounts as the employee’s contribution, with a matching amount being remitted by the employer. EPF members are also allowed to voluntarily invest more of their savings in the EPF account, an option many choose because they need to build a larger nest egg for their sunset years and the EPF’s relatively healthy tax-free annual returns.

What is the latest development on the PF tax introduced last year?

The Treasury had justified the tax move arguing that the contribution cap of 2.5 lakh will cover about 93% of EPF members and the tax-free, secured income will be milked by the super-rich and wealthy individuals. Many were depositing crores into their EPF accounts and earning several lakhs in annual income, abusing what is essentially a social security system, the Treasury pointed out. While the tax provision also covers government employees, the tax-free income contribution limit for them and all other PF accounts to which employers do not contribute has been set at ₹5 lakh per year. On August 31, 2021, the Central Board of Direct Taxes (CBDT) notified rules for calculating taxable income from PF contributions that exceed established limits, beginning in fiscal year 2021-22. The rules require that all PF accounts be split into separate accounts – one with the taxable contribution and interest earned on that component and another with the non-taxable contribution, which includes the closing balance of the PF account as of March 31, 2021 and shall include all new non-taxable contributions and interest thereon. The Employees’ Provident Fund Organization (EPFO), which is responsible for administering the pension plans of most private sector employees and regulating the operations of several thousand companies that manage their PF trusts in-house, issued a circular on Wednesday to explain how it works details of the tax.

How will this new tax provision for EPF account holders be implemented?

The 43-page communiqué, which some tax experts say is unusually long, attempts to provide guidelines for calculating tax liability in various scenarios. “The circular is primarily for administrative purposes, explaining how withholding taxes are calculated and deducted in various situations such as tax to be deducted at source by the EPFO ​​or the corporate-run PF trusts.

At what rate are taxes deducted from income on the account of taxable contributions?

As stipulated by the CBDT, the EPFO ​​maintains a tax-free account for contributions up to 2.5 lakh per year and a taxable account for members exceeding this threshold. EPF members whose retirement savings accounts are not linked to their Permanent Account Number (PAN) are subject to a 20% tax on that income, while the tax rate for those who have linked their tax and EPF accounts is 10% . “As such, PF members should ensure their PF accounts are linked to PAN to avoid unnecessarily freezing funds by deducting TDS at a higher rate,” advised Mr. Surana.

The TDS rate has been set at 30% for non-resident employees with active EPF accounts in India unless their countries of origin have a Double Taxation Avoidance Agreement (DTAA) with India. According to Mr. Surana, this rate would be further increased by the education levy and applicable surcharges.

How will it be reflected in the income tax return this year?

While the EPFO ​​or an employer takes care of the TDS duties, if your income tax rate is higher than the rate at which the TDS was carried out, you will have to pay the differential rate at the time of filing your IT returns from Deloitte India Partner Saraswathi Kasturirangan. There are also some trickier calculations for you, depending on how much you donate in excess of the 2.5 lact limit and whether your EPF and PAN are linked. “Section 194A of the IT Act provides a 10% TDS deduction on qualifying PF interest provided the interest payable in the full year is ₹5,000 or more. Therefore no TDS would be deducted where the PF interest paid to the resident did not exceed £5,000,” Mr Surana said. If the tax liability on income from PF contributions is ₹5,000 or less, the tax must be calculated by the employee at the time of filing their returns. For example, interest income of ₹50,000 or ₹25,000 from contributions over ₹2.5 lakh which are subject to a 10% or 20% levy respectively would fall under this ₹5,000 limit. This can affect many EPF members who voluntarily park more than the mandated savings. “Employees definitely need to keep a close eye on this and factor such earnings into their returns,” stressed Ms. Kasturirangan. However, this provision of the Income Tax Act does not apply to non-residents, Mr. Surana pointed out that in such cases, the TDS would have to be deducted from the total PF taxable income.