In the 2021 budget, the government introduced a tax on interest on employee contributions to the EPF of Rs 2.5 billion in one fiscal year.

The rationale of the government is that many HNIs take advantage of tax free interest by making a large contribution to the Employee Provident Fund (EPF) account. Read this Economic Times article for more details. The government believes that it is incorrect for the HNIs to receive such tax-free interest.

There is quite a bit of confusion about what has changed and what has not. Let us examine such aspects in this post.

By the way, there are two ways you can contribute to your EPF account.

  1. Own contribution (employee contribution). Qualifies for tax benefits of up to Rs 1.5 lacs under Section 80C of the Income Tax Act.
  2. Employer contribution (your employer contributes to your EPF account). Also qualifies for tax benefits.

Now for what hasn’t changed.

What hasn’t changed

# 1 Your contribution to the EPF (over 1.5 rupees) comes from after-tax income (it always has!)

Any investment (your contribution) in EPF over Rs 1.5 lacs will be based on your after-tax income. The tax benefit under Section 80C is limited to Rs. 1.5 lacs. Therefore, any investment / expense in Section 80C that is more than Rs 1.5 will come from your after-tax income. In other words, the excess investment over 1.5 rupees will not help you save on taxes.

Two points

  1. EPF isn’t the only Section 80C investment. There are also other competing products such as PPF, ELSS, insurance, etc. The limit of 1.5 rupees per fiscal year applies to all such investments / expenses combined. So if you invest Rs 60,000 in ELSS every year, you will save only Rs 90,000 on your EPF contribution in taxes. Or if you invest Rs 2 lacs in EPF, 50,000 EPF and 60,000 ELSS won’t help you save on taxes.
  2. That investment of over Rs 1.5 from after-tax income doesn’t make EPF a bad investment. Why? First, because every other investment you make comes from your after-tax income. Second, EPF gives you tax-free interest income and tax-free maturity proceeds and remains a great fixed income investment for retirement.

# 2 Nothing changes for your post until March 31, 2021

The change in tax regulations will only apply from April 1, 2021.

Your contribution up to March 31, 2021 (regardless of the amount) will also earn tax-free interest after March 31, 2021 (until the due date).

# 3 The employer contribution of more than 7.5 rupees comes from after-tax income. Interest on this excess portion is also taxable.

This rule was changed last year (2020 budget).

Previously, the employer contribution to your EPF account came from Pre-tax profit That means you received a tax break if your employer contributed to your EPF account. The interest income from this part was also tax-free.

In the 2020 budget, the government limited this tax benefit.

If the employer contribution (cumulative) to your EPF, NPS or pension account exceeds Rs 7.5 lacs in a fiscal year, the excess will be added to your income and taxed at your ceiling rate.

In addition, the interest you earn on that excess is also taxable.

Now for what has changed.

What has changed?

# 4 The interest on your contribution above Rs 2.5 lacs is taxable.

If you contribute more than Rs 2.5 lacs per fiscal year, the interest earned on that excess amount will be taxable.

Let’s say you are paying Rs 35,000 per month into the EPF account in fiscal year 2022. That makes it Rs 4.2 lacs in a fiscal year.

That’s Rs 1.7 lacs extra.

The difference is in how the interest is taxed.

  1. Previously, the interest earned on the entire Rs 4.2 lacs would have been tax free if you had kept working.
  2. Now the interest is tax free only on the first Rs 2.5 lacs. The interest on the excess Rs 1.7 lacs will be added to your income and taxed at the ceiling rate.
  3. Note that the interest is not taxed until the first year. The interest on such a surplus is taxed every year. Thus, the interest earned on these Rs 1.7 lacs is taxed every year.


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  1. This new rule only applies to your contribution (employee contribution).
  2. Includes both mandatory and voluntary contributions (VPF).
  3. This new rule does not apply to employer contributions. The rules for the employer’s contribution were changed last year (2020 budget). Refer to point 3.
  4. Note that your contribution above Rs 1.5 lacs (see # 1) always came from after-tax income. Therefore no change in this regard either.
  5. This rule only changes how the interest income on your EPF contribution that exceeds Rs 2.5 lacs is taxed.
  6. EPF and PPF are different products. Nothing will change in terms of PPF taxation.

Is the interest on the excess amount also taxed?

Continuing the example above, Rs 1.7 lacs was the excess of your contribution.

Suppose EPF picks up 8%, Rs 1.7 lacs * 8% = Rs 13,400

Will the interest on these Rs 13,400 be taxed in the years to come?

While we should wait for clarity from the Income Tax Department on this matter, it is my opinion Such interest is also taxed. Otherwise, the purpose of the change is canceled.

I am copying a comment from the Finance Act of 2021 on the proposal and proposed amendment to the Income Tax Act. Section 10 of the Income Tax Act contains clauses for exempting income from the EPF.


Article 11 of this section provides for an exemption in relation to payments from a pension fund to which the Pension Fund Act of 1925 applies, or from another pension fund set up by the central government and published in this name in the official gazette.

Clause (12) of this section provides for an exemption with regard to the cumulative residual amount that is due and payable to an employee participating in a recognized pension fund, insofar as this is provided for in Part A, Rule 8 of the fourth appendix.

It is proposed to add a reservation to these aforementioned clauses in order to ensure that the provisions of these clauses do not apply to income from interest accrued in the previous year on a person’s account to the extent to which they relate the amount or the sum of the contributions made by that person on or after April 1, 2021 in any previous year in this Fund in excess of two lakh and fifty thousand rupees calculated in accordance with the Regulations.

Subject to the addition in accordance with Section 10 Paragraphs 11 and 12

“Provided that the provisions of this clause do not apply to the income from interest that has accrued in the previous year on a person’s account to the extent to which they accrue refers to to the amount or the sum of the contributions which that person made on or after April 1, 2021 in a previous year in this Fund more than two lakh and fifty thousand rupees and which were calculated in the prescribed manner; “;

That’s Rs 13,400 connected On the excess of Rs 2.5 lacs, the interest of Rs 13,400 is still taxable in the future.

Hence, you can imagine that your EPF balance is divided into three parts.

  1. Exempt employee contributions
  2. Taxable employee contribution (surplus of more than 2.5 rupees per year after April 1, 2021, to be kept in this account). Interest on such a surplus will also be credited to this account.
  3. Employer contribution (guess this can also be broken down into two parts, one for less than 7.5 lacs and one for the excess).

Disclaimer: Please understand The final calculation method will be determined later by the Central Direct Tax Office and how this will be done. This is just my opinion and my understanding may be wrong.

What should i do?

First, because of this rule change, not many would be affected.

Rs 2.5 lacs per year means a monthly contribution of Rs 20,833. So if you contribute up to Rs 20,833 per month you will not be affected by this change.

Assuming you contribute 12% of your base salary, your base salary should be 1.73 rupees per month to violate the EPF monthly contribution of 20,833 rupees. Annual base salary of Rs 20.83 lacs. Not a small amount.

Mathematically speaking, a taxpayer with a tax bracket of less than 30% is unlikely to be affected by this rule (unless the investor makes a large contribution through VPF).

If EPF pays 8.5% pa (assumption), the post-tax return is 5.95% pa on the excess amount. This doesn’t look bad in times of low interest rates. Other safe fixed income products will find it difficult to generate such after-tax returns.

However, times will change. It is possible that other investments (e.g. debt securities) may achieve higher after-tax returns than taxable EPFs. You will then not be able to take any money from EPF at this point. This therefore makes the decision more difficult.

By the way, if you don’t have a PPF account yet, open one. PPF continues to offer tax-free interest. For example, if you plan to deposit 3.5 Lacs into your EPF account (including VPF), you can put Rs 2.5 Lacs in EPF and Rs 1 Lac in PPF. PPF will likely offer returns as the taxable part of EPF.

Additional links

By the way, if you want to know what is happening to your EPF account when you are not contributing, check out this excellent post from Sreekanth.


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