How Is EPF Interest Taxed

Introduction

Employee Provident Fund (EPF) gets deducted from all employees earning a monthly salary of Rs. 15,000 and employed in an organisation having 20 plus employees. EPF gets accumulated in an employee’s EPF account, making it one of the most beneficial retirement and tax planning options. Prior to the amendment in the Finance Act of 2021, PF tax exemption applied to an employer’s contribution to a provident fund (PF). Up to12% of the employer's contribution was exempt from tax. Also, tax on EPF interest was not applicable under Section 10 of the Income Tax Act1961. Post the amendment effective April 1, 2022, tax on EPF interest earned becomes applicable.

How is EPF taxable post-amendment? Is PF taxable on retirement? Is employer contribution to PF taxable?

Continue reading this article to understand all about tax on EPF and interest earned.

Taxation on EPF Interest

Is EPF interest taxable? To understand tax on EPF post amendment to PF taxation rules in Budget 2021, it is necessary to compare old and new PF tax provisions.

Old Tax Provision

Before the Finance Act, 2021 amendment, employees’ PF contribution was eligible for tax deduction under Section 80C of the Income Tax Act, 1961 up to a maximum of Rs. 1.5 lakhs in a fiscal year. Interest earned on EPF by employees was tax-free. So, EPF tax-free limit on interest earned was not applicable.

Is employer contribution to PF taxable? As per the PF Income Tax Rules, an employer’s contribution to PF was eligible for PF tax exemption up to 12%, beyond which the PF contribution becomes taxable. For example, An employer contributed Rs. 10,000 to an employee's PF account. This amount was below the taxable limit of 12% contribution. So, Rs. 10,000 was tax-exempt.

New Tax Provision

In the Finance Act 2021, the Income Tax was amended. As per the amendment, now there is a tax on EPF interest.

The Act has introduced two PF tax exemption limits.

Government Employees

• The first threshold is up to Rs. 5 lakhs for government employees where there is no contribution of the employer towards PF.
• So, in this case, is EPF taxable? Interest earned beyond the prescribed contribution threshold of Rs. 5 lakhs becomes taxable. EPF contribution taxable option is therefore not on the total contribution.

Other Employees

• The second exemption threshold limit of Rs. 2.5 lakhs applies to other employees where the employer contributes to PF.
• Tax on EPF applies to employees who contribute beyond Rs. 2.5 lakhs to EPF every year.
• There is no tax on EPF contributions below the threshold limit of Rs. 2.5 lakhs
• Is employer contribution to PF taxable? As per the new rules, the employer’s contribution to PF, National Pension Scheme (NPS) and superannuation totalling Rs. 7.5 lakh annually is tax-free. Any contribution exceeding Rs. 7.5 lakhs in a year becomes taxable in the hands of their employees.

All EPF accounts have to be classified under two categories: taxable and non-taxable. Taxable accounts are those for which tax on EPF is applicable as contributions exceed the thresholds under both limits specified above. Non-taxable PF accounts relate to EPF contributions below threshold limits. Interest on non-taxable PF accounts will continue to remain exempt from tax like in the old tax regime. The two account categories have to be maintained from the financial year 2021-22 onwards.

The government brought in PF amendments mainly to restrict high-income individuals who contribute hugely to the EPF scheme, to gain excess benefits from the scheme.

Will EPF be Taxable Every Year?

The accrued EPF interest on the taxable account will be taxed annually. Any previous year accumulated interest in the account gets carried forward to the following years. So, this accrued interest plus the interest accrued on the contributions made during a fiscal (financial) year both come under the tax ambit.

How to calculate the taxable and non-taxable portion of EPF interest?

According to Notification No. 95/2021 dated August 31, 2021, the Provident Fund department is mandated to maintain separate records for its subscribers. These records include two accounts: one for taxable contributions and another for non-taxable contributions.

Since the financial year 2021-22, any interest earned on the taxable contribution account will be subject to income tax, and the EPFO will deduct TDS (Tax Deducted at Source) on this interest amount.

Is PF taxable on Retirement?

PF is not taxable on retirement on the amount withdrawn as such an amount is exempt on maturity.

Non-taxable Contributions

To calculate non-taxable contributions, apply the below formula.

Aggregate of

a)      Closing EPF account balance as on March 31, 2021. The closing balance means employee contributions below Rs. 5 lakhs or Rs. 2.5 lakhs as applicable for the new fiscal year + Accrued interest on the closing balance + interest earned on contribution below the threshold limit.

b)      Withdrawal from the EPF accounts

Non-Taxable Contribution = a-b

Who Has to Pay EPF Tax?

Is EPF taxable? It has been answered in the above sections. Only employee contributions beyond the threshold exemption limit come under the tax ambit. However, as per the new tax rules, the burden of paying tax will be on the employee owning the PF account. So, as per calculations to the new tax proviso, employees earning beyond Rs. 20.83 lakhs will be impacted by the new rules. So, only a few high-income individuals need to check whether EPF is taxable for them.

What is the Reason for Taxing PF Contributions?

Prior to the PF amendment in Finance Act, 2021, many high-income employees resorted to huge contributions to EPF to reduce their income tax liability.

While bringing in the new tax on EPF rules, the Government aimed to prevent such significant contributions to EPF from the high-income earning individuals beyond the stipulated annual EPF contributions.

Final Thoughts

EPF is a good retirement investment option. However, with new PF rules from April 1, 2022, now EPF interest is taxable when contributions exceed the two threshold limits defined. Do not let investment goals go awry. Lenders like Tata Capital offer customized loans to serve your investment goals. Tata Capital Moneyfy investment app will give you the best investment options. For more details, visit the Moneyfy website.

FAQs for EPF interest taxed

1. Is interest on PF taxable?

Yes, interest earned on an employee's contribution to EPF over Rs. 2.5 lakhs during a year is taxable.

2. Who has to pay EPF tax?

Employees earning beyond Rs. 20.83 lakhs have to pay EPF tax.

3. Is TDS deducted from the EPF interest amount?

Yes, the EPFO will deduct TDS on the taxable EPF interest amount.

4. How is EPF interest taxed from employees?

According to old tax provisions, the employer's contribution to PF is eligible for PF tax exemption up to 12%. Under the new tax provision, government employees have an exemption of up to Rs. 5 lakhs and non-government emloyees can enjoy an exemption of up to Rs. 2.5 lakhs.

5. Are there any restrictions on the withdrawal of EPF?

Yes, you can only withdraw three months of your basic salary plus dearness allowance or 75% of the net balance in your EPF account, whichever is lower.