Finance Bill 2021 - 5. Taxability on Interest from Provident Fund - Proposed amendment

Interest earned on contribution made to Provident fund (which were exempt previously), will be taxable if the investments are made in excess of threshold mentioned - Proposed Amendment - Finance Bill 2021

Source: The Income Tax Act, 1961, the Finance Bill 2021 and the memorandum to the Finance Bill.

Introduction:

Dear Readers,

Interest income earned from provident funds are exempt in most cases. 

• In case of interest earned on Employee Provident fund ('EPF'), any interest up to 9.5% p.a. is exempt. Only Interest over and above 9.5% p.a. is taxable.
• In case of Statutory Provident Funds ('SPF') and Public Provident Fund ('PPF'), entire interest is exempt. 
• In case of Unrecognized Provident Fund, which is quite rare and entity / organisation / company specific. The interest income earned thereon is taxable as Income from Salaries (for interest on employer's contribution) and as Income from Other Sources (for Interest on employee's contribution)

The above exemptions are squarely covered under section 10(11) and Section 10(12).

Proposed Amendment by the Finance Bill

The Finance Bill proposes to tax interest on the income earned from Provident funds (EPF, PPF and SPF) on the excess amount of contribution / investment over and above Rs. 250,000 in a given previous year (financial year). 

In simple words, if the contribution / investments made to the above Provident funds is less than Rs. 250,000 p.a., then the interest earned on such contributions / investments will be tax exempt (subject to conditions as mentioned for EPF). If the total contribution / investment is more than Rs. 250,000, then the interest amount earned on amount over and above Rs. 250,000 will be taxable.

Perpetual taxation of interest on excess interest amount?

An interpretation can be taken that the interest on such excess contribution / investments can be taxed perpetually. This will indeed bring some chaos as the computation on such extra amount, in case of withdrawal of funds from PF, etc.

The Method of computation of such tax on interest on excess amount over and above the limit, will be prescribed. However one has to also bear in mind that the proposed amendment also covers the aggregate contribution / investments made. Hence, it will be very relevant to keep a watch out for the method of computation.

The proposed amendment will be applicable from AY 2022 - 23 (i.e. FY / PY 2021-22 and onwards)

Need of the Amendment

As you might be aware the prevailing interest rate as on today (i.e. 6 February 2021) is as follows;

• In case of EPF - 8.50%
• In case of PPF - 7.10%

Hence if one compares the interest earned on normal savings account (4%-6%) or from interest on Fixed Deposits (i.e. up to 6.50%) which is again taxable subject to the deduction available under section 80TTA (upto 10,000 deduction on savings) and 80TTB (upto 50,000 deduction for senior citizens only); the interest to be earned from PFs outweighs the other fixed interest options by every means.

As per the explanation provided in the memorandum to the  Finance Bill, it is seen that some employees are contributing huge amounts to these funds and entire interest accrued/received on such contributions is exempt from tax under clause (11) and clause (12) of section 10 of the Act.

Conclusion

No doubt about the genuineness of the intention of the law makers, the Assesses will have to carefully plan and proceed for evaluating investment options in future.

The Text of the proposed amendment is as below for quick reference;

(i) in clause (11), the following proviso shall be inserted, namely:––

“Provided that the provisions of this clause shall not apply to the income by way of interest accrued during the previous year in the account of a person to the extent it relates to the amount or the aggregate of amounts of contribution made by that person exceeding two lakh and fifty thousand rupees in any previous year in that fund, on or after the 1st day of April, 2021 and computed in such manner as may be prescribed;"

24 (ii) in clause (12), the following proviso shall be inserted, namely:––

“Provided that the provisions of this clause shall not apply to the income by way of interest accrued during the previous year in the account of a person to the extent it relates to the amount or the aggregate of amounts of contribution made by that person exceeding two lakh and  fifty thousand rupees in any previous year in that fund, on or after the 1st day of April, 2021 and computed in such manner as may be prescribed;”;