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Story outline
- The government is considering to lower the rate of contribution towards EPF.
- Currently, the contribution paid by an employee is 12% of basic wages plus dearness allowance plus retaining allowance.
- An equal contribution is payable by the employer as well.
What is EPF?
The EPF is the main scheme under The Employees' Provident Funds and Miscellaneous Provisions Act, 1952. It is managed under the aegis of Employees' Provident Fund Organisation (EPFO).
Under the scheme, an employee has to pay a certain contribution towards the EPF on a monthly basis and an equal contribution is paid by the employer. The employee gets a lump sum amount including self and employer's contribution with interest on both, upon retirement.
Currently, the contribution paid by an employee is 12 percent of basic wages plus dearness allowance plus retaining allowance. An equal contribution is payable by the employer as well. In the case of establishments which employ less than 20 employees or meet certain other conditions, as per the EPFO rules, the contribution rate for both employee and the employer is limited to 10 percent.
Here are four aspects of one's salary and savings that will get impacted if the contribution rate towards PF is revised:
1. Impact on take home pay
For example, if the monthly basic salary is Rs 30,000, the employee contribution towards his or her EPF would be Rs 3,600 a month (12 percent of basic pay), while the equal amount is contributed by the employer each month. If the contribution rate is reduced to 10 percent, Rs 3,000 a month becomes the PF contribution by employee and the take-home pay will increase by Rs 600.
If these savings are invested diligently, even small amounts can reap big rewards. Let us say you divert this amount every month towards mutual funds, assuming a growth rate of 12 percent, the corpus is nearly Rs 20 lakh after 30 years of job.
2. Impact on CTC
The employer's contribution to EPF is a part of the CTC. As the employer is supposed to match the mandatory contribution rate, if it is reduced to 10 percent, the employer's contribution too reduces. Thus, CTC too will see a fall, unless adjusted by the employer under some other head. Once adjusted and the employer decides to pay the 2 percent differential under some head, the take-home pay will increase.
3. Impact on taxes saved
Your contribution towards PF qualifies for tax benefit section 80C of the Income-tax Act. If the proposals go through, lesser contributions will mean that much less of tax benefit. For example, if annual contribution towards PF falls by Rs 7,200, then for someone paying 31.2 percent tax (highest slab), then you will save nearly Rs 2,250 lesser tax. One can however, invest in products like in ELSS to save tax up to Rs 1.5 lakh in a year.
4. Impact on retirement corpus
EPF is a retirement focused scheme and any reduction in the contributions made towards it by the employee and the employer, will see a reduction in the corpus. Illustratively, for someone who is 30 years old and will retire at the age of 60, who is earning a basic salary of Rs 30,000 a month, if the contribution rate is reduced from 12 percent to 10 percent, the retirement corpus will fall from Rs 92 lakh to Rs 76 lakh by the time he retires. This is a 16 percent reduction in corpus.
For calculating one's retirement corpus, click here
Diversion out of employer's share towards pension scheme
It should, however, be noted that not all of the employer's share moves into the EPF kitty. Out of employer's contribution, 8.33 percent is diverted to Employees' Pension Scheme (EPS). However, diversion to EPS will not be of 8.33 percent of basic salary; it is restricted to Rs 15,000.
So, for every employee with a basic pay equal to Rs 15,000 or more, the diversion is Rs 1,250 each month into EPS. The balance, i.e., 3.67 percent goes into the EPF scheme. If the basic pay is less than Rs 15,000, then 8.33 percent of that basic salary will go into EPS.
On retirement, the employee gets the full share plus the balance of employer's share retained to his credit in the EPF account. To claim the EPS amount as a lumpsum or as a staggered pension, the process is different. Click here to know it.
An alternative
As an employee, one can voluntarily pay higher contribution above the statutory rate of 12 percent of basic pay. This is called contribution towards Voluntary Provident Fund (VPF) which is accounted for separately in the PF statement. However, the employer does not have to match such voluntary contribution. To know when to go for VPF, click here.
What you should do
Relying entirely on EPF for retirement needs is never the right approach. In case the proposal to reduce the contribution rate goes through, one would have to explore alternative investment avenues such as equity mutual funds and Public Provident Fund (PPF) to create a corpus for retirement.
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Subscribe to The Economic Times Prime and read the ET ePaper online.