Budget 2016: EPF Taxation illustration

Update: This is the official clarification:

Clarification about Changes made in the Tax Treatment for Recognised Provident Fund & National Pension System (NPS)

This clarification say total corpus (interest+contributions) will be taxed! This tax is applicable only if the basic pay (statutory wage limit?) is more than Rs. 15,000 at the time of retirement.

The government has now clarified that all contributions made to EPF after 1st April 2016 will be tax-free. Out of the interest contribution, 40% will be tax-free and 60% will be taxed as per slab, if any annuity product is not purchased. The effective tax rate is not as bad as it looks.

If an annuity product is purchased, no need to pay tax on the interest component. However, the pension received will be taxable. It has also clarified that PPF will remain tax-free.

Here is a EPF illustration. I shall shortly update the existing EPF calculator with this math.

Updates: 

Download EPF Calculator with Budget 2016 Taxation Rules

Budget 2016: Don’t worry -Tax on EPF is quite small!

Consider a 24 year old who joins the EPF at a basic salary of 8,000. We will assume the interest is 8.8%.

On March 31st 2016, he completes 15 years of service.

EPF total balance = 5,60299. This amount grows at 8.8% a year to 27,82076 at age 58 (we will not consider withdrawals- that is a mess and more clarity is required).

This 27,82076 is tax free.

Case I: only interest is taxed

From April 1st 2016 (16th year of EPF subscription) to his age 58 (next 19 years), the sum of both employer and employee contributions is 5,72,124. This is also tax free.

The total interest earned in this period is 8,15,107.

Forty percent of this amount, 3,26,043, is tax-free.

Remaining sixty percent,4,89,064, will be taxed per slab, if no annuity product is purchased with this amount.

Now according to old rules where the entire sum was tax-free, the sum of the following

2782076  (EPF balance on 31 March 2016)
572124 Contributions on or after 1st April 2016
   326,043 --> 40% of interest earned on above contributions
   489,064--> 60% of interest earned on above contributions

=41,69,307 will be tax free.

According to the new rule: Remaining sixty percent,4,89,064, will be taxed per slab

10% slab --> 41,18,933 (net corpus). Effective tax rate of 1.21%

20% slab --> 40,68,560 (net corpus). Effective tax rate of 2.42%

30% slab --> 40,18,186 (net corpus). Effective tax rate of 3.62%

Budget-2016-EPF-tax-rules-1

Case II: Both interest and contributions are taxed

From April 1st 2016 (16th year of EPF subscription) to his age 58 (next 19 years), the sum of both employer and employee contributions is 5,72,124According to the just received clarification 60% of this amount will be taxed!

The total interest earned in this period is 8,15,107.

Forty percent of this amount, 3,26,043, is tax-free.

Remaining sixty percent,4,89,064, will be taxed per slab, if no annuity product is purchased with this amount.

2782076  (EPF balance on 31 March 2016)
572124 Contributions on or after 1st April 2016

60% of this will be taxed as per slab

   326,043 --> 40% of interest earned on above contributions (tax free)
   489,064--> 60% of interest earned on above contributions (taxed as per slab)

=41,69,307 will be tax free.

If 60% of both contributions and interest are taxed

10% slab --> 40,83,576 (net corpus). Effective tax rate of 2.06%

20% slab --> 39,97,845 (net corpus). Effective tax rate of 4.11%

30% slab --> 39,12,1114 (net corpus). Effective tax rate of 6.17%

Budget-2016-EPF-tax-rules-2

Do correct me if I have made any mistake.

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19 thoughts on “Budget 2016: EPF Taxation illustration

  1. Satish

    Padu,
    Thanks for coming up with this article. Two points I want to make:
    1. You have assumed constant interest rate, which is not the case as they change every year. Not sure if that has a impact on the % outlined at the end.
    2. There is no clarity if the interest on the existing corpus is also taxed as that can change things, where your employer contribution is locked till 58 yrs and you have no choice.

    Reply
  2. ankitmehta

    I am very very disappointed by the govt.
    this is no way to treat honest tax paying citizens.
    they will only meet the fate same as congress.

    Direct and indirect taxes are consuming 50% of indians take home salary.
    whereas no movement in govt to bring in more ppl in tax net.

    Ashamed of modi and jaitley govt for whom indians voted with lots of hope.

    Reply
    1. Gajendran

      Direct and indirect taxes are consuming 50% of indians take home salary.
      whereas no movement in govt to bring in more ppl in tax net.This is the point I don't understand why govt keen on imposing taxes on various ways but do not find a system to bring in more people into the tax net. People having asset income are freely left and the huge rentals goes untoiced

      Reply
  3. sudhir seetharam

    One a employee retires, he has to depend upon the EPF or PPF as a strong base for future, along with the other benefits,. A retired employee cannot lead a life as he was leading when earning, his accumulations or savings or the salary drawn will get sliced for education, parents, marriage, functions, and for happiness of family.. Employee gets poorer as the time passes, employees are the back bone of industries, infrastructure, technology and innovations that we are coming across, they are the real force of India, If this FM bleeds the people by tax, Why one should invest money in above, he can invest in gold or FD or Mutual Funds...

    Reply
  4. execve

    I heard the speech again - and it says 40% tax-free cap at retirement applies to the corpus created out of contributions after 01-Apr-17. Which means that interest component on the corpus of the EPF balance on 31.Mar-17 should not fall under this 40% tax-free withdrawal at retirement.
    It seems that these calculations do not take this into account - am I right?

    Reply
    1. freefincal

      It does take that into account. Total corpus (contribution+interest) as on 31st Mar 2016 (not 17 see budget document. I know he said that in the speech) is tax free.

      Reply
      1. execve

        May be I wasn't clear - does it take into account that the interest on the total corpus as of 31.3.16 is also tax free ?

        Reply
  5. testing

    This is for people who are already working. What about people who will be starting now. For them it is a simple question of 60% corpus taxed and since this is going to be a significant chunk, most probably they will be in 30% tax bracket making it 20% of the total PF corpus. A huge number i would say.

    Reply
    1. freefincal

      I will post a calculator for this tomorrow. A 20% tax rate is the same as that doe debt funds. So still not a big deal. Tax free returns is no ones right!

      Reply
      1. Anuj

        Another grey area is how the tax slab will be decided for this tax deduction (if i don't go for any superannuity plan with that 60%). Will it be the same as my tax slab at the time of retirement?

        Reply
        1. Siva

          Yah..i was having the same doubt. We are talking about these calculations after the retirement so how the slab will be determined. If the taxable amount is 4.8l how 10% slab will come into picture.

          Reply
  6. Gaurav

    Sir,
    Basis what I have read elsewhere, only the 60% of the interest on contributions made after April 1, 2016 will be taxed. So scenario 1 holds? Also, would like to know your thoughts on shifting to NPS, assuming this is true (of course, one has to wait till there is complete clarity, but assuming this is true, does NPS make more sense now?)

    Reply
    1. freefincal

      No the clarification is clear that 60% of total corpus (contributions and interest) made after 1st April 2016 will be taxed. I will write an article on the NPS

      Reply

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