Employees’ Provident Fund: The Clarification of the Clarification of the Clarification…

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010

 

There must be some way out of here” said the joker to the thief
“There’s too much confusion”, I can’t get no relief
– Bob Dylan, All Along the Watchtower

Arun Jaitley presented his third budget on February 29, 2016. Since then, the only point from the budget that is being discussed is the income tax to be applicable on the Employees’ Provident Fund and other recognised provident funds.

In fact, the government’s communication on this left a lot to be desired. The finance minister Jaitley said during the course of the speech: “I believe that the tax treatment should be uniform for defined benefit and defined contribution pension plans. I believe that the tax treatment should be uniform for defined benefit and defined contribution pension plans. I propose to make withdrawal up to 40% of the corpus at the time of retirement tax exempt in the case of National Pension Scheme. In case of superannuation funds and recognized provident funds, including EPF, the same norm of 40% of corpus to be tax free will apply in respect of corpus created out of contributions made after 1.4.2016.”

Given that Jaitley gave a 100-minute-long speech, he could have taken a minute more and gone into the details of this change.

Barely had he finished saying this, all hell broke loose on the social media. As soon as he had finished his speech, the television channels caught on to this point. Jaitley should have ideally provided an annexure to his speech explaining the exact details of the plan. But an annexure wasn’t provided and neither did he go into the details. This created a lot of needless confusion.

What Jaitley basically said was that 40% of the accumulated corpus of the EPF and other recognised provident funds, on contributions made after April 1, 2016, would be tax free. As of now 100% of the accumulated corpus on the EPF is taxfree.

The first interpretation after Jaitley’s speech was completed was that now up to 60% of the EPF corpus will be taxable. On the social media people are quick to draw conclusions without waiting toget into details. A reading of the Finance Bill made it clear that wasn’t the case. If 60% of the corpus was used to buy annuities to generate a regular income, this amount would remain tax free as well.

The minister of state for finance Jayant Sinha clarified this on a television channel, late evening on February 29,2016. And then he made a mistake, which added to the confusion. He said income earned by buying an annuity would be tax free. Income earned from annuities is taxable.

Then he was asked if the corpus of the Public Provident Fund(PPF) would be taxed as well. He did not answer in the affirmative to this question, neither did he say no. The anchor asking the question essentially concluded that the accumulated corpus of the PPF would now be taxable.

After this, the revenue secretary Hasmuk Adhia, clarified that PPF would continue to be the way it was i.e. its corpus wouldn’t be taxable. He also made another remark which again introduced more confusion into the entire debate going on. He said a tax would be levied only on accrued interest on 60% of EPF contribution, after April 1, 2016.

This was contradictory to what Jaitley had said in his speech. He had said that 40% of the corpus will be tax free, which essentially means that 60% of the corpus will be taxed.

It is rather sad to see that the top policymakers of a ministry trying to bring in a very important change on a point that impacts so many people, were not clear about basic things. Either they hadn’t been briefed properly or they just didn’t realise how huge is the change they were trying to bring in.

After all this hungama the ministry of finance put out a clarification. The clarification started with these lines: “There seems to be some amount of lack of understanding [the emphasis is mine] about the changes made in the General Budget 2016-17 in the tax treatment for recognised Provident Fund & NPS.”

Rather ironically, the policy makers at the ministry of finance had contributed majorly to this lack of understanding. After this clarification (actually clarification of a clarification of a clarification if we were to start with Jaitley’s speech, go to Sinha’s comments and then Adhia’s clarification) this is how things stand as of now.

As the ministry of finance’s clarification points out: “The Government has announced that Forty Percent (40%) of the total corpus withdrawn at the time of retirement will be tax exempt both under recognised Provident Fund and National Pension Scheme.”

Does this mean what it means? Not really. There are certain nuances to it. For employees within the statutory wage limit of Rs 15,000 per month, things would stay as they currently are i.e. their corpus would continue to be 100% tax free.

Further, if you are a private sector employee and you want 100% of your EPF money to be tax free you need to buy annuities. As the finance ministry’s clarification points out: “It is expected that the employees of private companies will place the remaining 60% of the Corpus in Annuity, out of which they can get regular pension. When this 60% of the remaining Corpus is invested in Annuity, no tax is chargeable. So what it means is that the entire corpus will be tax free, if invested in annuity.”

What this means is that the private sector employees can make 100% of their EPF corpus accumulated on contributions made after April 1, 2016, tax free, by investing 60% of it in annuities. What about public sector employees? This is where things get interesting. The clarification is totally silent on this.

Hence, for public sector employees their provident fund continues to be 100% tax free at maturity. It means that public sector employees (or babulog) do not need to invest money in annuities at all. They can withdraw 100% of the money tax free. A private sector guy wanting to withdraw 100% money has to pay tax on 60% of the corpus he has accumulated on contributions made since April 1, 2016. Further, this is a clear attempt by the babus who drafted this change to ensure that their provident fund continues to remain 100% tax free.

Why is there this differentiation? Why is the private sector employee being treated in this unfair way? The press release further points out: “The idea behind this mechanism is to encourage people to invest in pension products rather than withdraw and use the entire Corpus after retirement.”

Doesn’t the government want public sector guys to do this? Shouldn’t babulog also be buying annuities to generate a regular income from their provident fund corpus after retirement? The government hasn’t offered an explanation for this but a possible explanation for this is that many retired government employees already get a pension from the government. Hence, their provident fund is 100% tax free.

This is bizarre. Many government employees get a fixed pension and on top of that get 100% tax free provident fund. A private sector employee on the other hand is forced to buy annuities. Why? The ministry of finance’s clarification points out: “There are about 60 lakh contributing members who have accepted EPF voluntarily and they are highly – paid employees [italics are mine] of private sector companies. For this category of people, amount at present can be withdrawn without any tax liability. We are changing this. What we are saying is that such employee can withdraw without tax liability provided he contributes 60% in annuity product so that pension security can be created for him according to his earning level. However, if he chooses not to put any amount in Annuity product the tax would not be charged on 40%.”

The term highly-paid is not defined. I have a problem with this approach. It assumes all government employees earn a lower salary than private sector employees. And that is incorrect. If the idea is to tax, why not have a cut off on the basis of the total amount of the corpus that has been accumulated rather than try to differentiate between public sector and private sector employees? That would be a much more equitable way of going about it.

Also, the question is, is this government worried about an equitable way of doing things at all?  I don’t really think so. The government plans to open a compliance window for those who have black money and are willing to declare it. Black money is income which has been earned but on which tax hasn’t been paid.

This would involve a tax of 30%, a surcharge of 7.5% and a penalty of 15%. By paying 15% extra, those who have black money can ensure that “there will be no scrutiny or enquiry regarding income declared in these declarations under the Income Tax Act or the Wealth Tax Act,” They will also have immunity from prosecution. What this means is that if you are willing to pay 15% extra, the law of the land will not apply to you.

Money can’t possibly buy love, but it definitely can buy everything else. The Modi government just showed us that.

The column originally appeared on the Vivek Kaul Diary on March 3, 2016

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About vivekkaul
Vivek Kaul is a writer who has worked at senior positions with the Daily News and Analysis(DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System , the latest book in the trilogy has just been published. The first two books in the trilogy were published in November 2013 and July 2014 respectively. Both the books were bestsellers on Amazon.com and Amazon.in. Currently he works as an economic commentator and writes regular columns for www.firstpost.com. He is also the India editor of The Daily Reckoning newsletter published by www.equitymaster.com. His writing has appeared across various other publications in India. These include The Times of India, Business Standard,Business Today, Business World, The Hindu, The Hindu Business Line, Indian Management, The Asian Age, Deccan Chronicle, Forbes India, Mutual Fund Insight, The Free Press Journal, Quartz.com, DailyO.in, Business World, Huffington Post and Wealth Insight. In the past he has also been a regular columnist for www.rediff.com. He has lectured at IIM Bangalore, IIM Indore, TA PAI Institute of Management and the Alliance University (Bangalore). He has also taught a course titled Indian Economy to the PGPMX batch of IIM Indore. His areas of interest are the intersection between politics and economics, the international financial crisis, personal finance, marketing and branding, and anything to do with cinema and music. He can be reached at vivek.kaul@gmail.com

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