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February 6, 2021

Is interest on PPF now taxable due to Budget 2021?

by CA Shivam Jaiswal in Budget

Is interest on PPF now taxable due to Budget 2021?

Finance Minister Nirmala Sitharaman proposed many new measures in the Budget 2021 to prop up the declining economy amid the Covid-19 pandemic and boost spending across sectors. Budget 2021 focused on the seven pillars for reviving the economy – Health and Wellbeing, Physical and Financial Capital and Infrastructure, Inclusive Development for Aspirational India, Reinvigorating Human Capital, Innovation and R&D, and Minimum Government Maximum Governance. Several direct taxes and indirect taxes amendments were also proposed.

Salaried employees form the major chunk of the overall taxpayers in the country and the contribution they make to the tax collection is quite significant. Income tax deductions offer a gamut of opportunities for saving tax for the salaried class. With the help of these deductions and exemptions and, one could reduce his/her tax substantially. One such exemption pertained to exemption on investment of provident fund, which was to a certain extend removed by Budget 2021. Budget 2021 proposed to levy income tax on interest earned by an employee/person on his/her contribution in excess of Rs 2.5 lakh in a financial year to a provident fund. On a plain reading of the budget documents, it appears that tax will apply to the interest earned on contributions made to Employees’ Provident Fund (EPF), Voluntary Provident Fund (VPF) as well as Public Provident Fund (PPF). Let us understand whether this is the actual case or not.

What do you mean by a Provident Fund (PF)?

A provident fund is a retirement fund run by the government. They are generally compulsory, often through taxes, and are funded by both employer and employee contributions. Governments set the rules regarding withdrawals, including minimum age and withdrawal amount. If a participant dies, his or her surviving spouse and dependents may be able to continue drawing payments.

Statutory Provident Fund or General Provident Fund is maintained by Government and Semi-Government organizations. The Government employee contributes a certain amount of salary to this fund. The accumulations in this fund are paid to the Government employee at the time of retirement or superannuation.

As per Section 6 of the Provident Fund Act, if an employee so desires, he/she can make provident fund contribution in excess of the statutory rate subject to the condition that the employer shall not be under an obligation to pay any contribution over and above its contribution payable under the law. Thus, an employee can make Voluntary Provident Find (VPF) contributions at any time while he/she is a contributory member of Employees Provident Fund (EPF).

A public provident fund (PPF) account is also an investment option that provides income tax deduction u/s 80C for the amount invested (subject to a limit of Rs 1.5 lakh a year). Interest received is exempt from tax and there is no tax on the amount received on maturity of the account either.

Before the Proposed Budget 2021, the below mentioned tax exemptions were available for Provident Fund:

 Statutory Provident FundRecognized Provident FundUnrecognized Provident FundPublic Provident Fund
Employer’s contributionExempt from taxExempt up to 12% of salaryExempt from taxEmployer does not contribute to such fund
Employee’s contribution eligible for deduction u/s 80CYesYesNoYes
Interest credited to the said fundExempt from taxExempt from tax if rate of interest is up to prevalent rate. Interest in excess of the prevalent rate is charged to tax.Exempt from taxExempt from tax
Amount received at the time of termination of serviceExempt from taxIf certain conditions are satisfied, then lump sum amount is exempt from taxIf certain conditions are satisfied, then lump sum amount is exempt from taxExempt from tax

Effect of Budget 2021 on Provident Fund Exemption:

In Budget 2021, it has been proposed that the exemption shall not be available for the interest income accrued during the previous year on provident fund in the account of the person to the extent it relates to the contribution made by the employees in excess of Rs. 2,50,000 in a previous year.

The issue which arises is that does this provision pertains to PPF or not?

  • There are separate limits for EPF/VPF and PPF i.e., contributions to PPF and EPF/VPF will not be aggregated for the purpose of calculating the Rs 2.5 lakh limit.
  • Effectively, this would mean that an individual will still enjoy tax exemption on the interest earned on PPF contributions because a person is not allowed to contribute more than Rs 1.5 lakh per financial year to PPF as per current laws.
  • Therefore, although a cap of Rs 2.5 lakh is applicable independently to PPF contribution for claiming exemption on interest but this cap is, at present, not relevant because of the Rs 1.5 lakh limit on contribution to PPF itself.
  • However, in case of EPF and VPF contributions, the total of contributions to both – EPF and VPF- should not exceed Rs 2.5 lakh in a financial year to enjoy tax exemption on the interest earned on EPF and VPF contributions.
  • If an employee’s total contribution to EPF and VPF together in a financial year exceeds Rs 2.5 lakh in a financial year, then the interest earned on the excess contribution will be taxable in the hands of an employee. 

So, unless further clarifications are given, it appears that no interest will be charged on the interest on PPF, but the interest on contributions to GPF above Rs 2.5 lakh will be taxable. These amendments will take effect from 1st July, 2021.

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