- Wealth PMS
This is an update to our (very popular) post on Clearing the Confusion on how EPF is Taxed in Budget 2016.
The Finance Ministry has released a note confirming EXACTLY what we have said here, despite statements to the contrary made on various TV channels. Here’s the note.
There is a lot of drama happening. Everyone’s furious. But this has to happen someday – retirement savings have to be taxed at exit as part of the EET regime. However, in this case, it’s piecemeal – firstly, we should have a uniform approach for everyone (so even PPF, Insurers, ELSS etc should have a tax on exit), or nothing should. Secondly, remember that EPF is mandatory for most people and most companies don’t even know they can have employees opt for a lower amount; the EPFO should let them lower that liability. Thirdly, the EPF you pay in is not fully tax exempt so this amounts to double taxation for the richer employees.
The law protects past investments but applies to fresh investments made in the future. EPF should be only used in the most minimum quantities primarily because the quality of annuities in India are waay lesser than equivalent products. An annuity for life with return of premium to your heirs gives you a return of about 6.7% today (Rs. 6,700 per year for one lakh invested) which is taxable. If you had the corpus, you could invest in tax free bonds and get an income of 7.5% tax free. Annuities make no sense to buy, but we now are forced to buy them.
At Capital Mind, the EET regime is not something we abhor. But we require a level playing field for all long term tax saving products. If you saved tax going in, you’re going to be taxed getting out. That should apply for everything.
So there are two real problems with the EPF and the EET regime. For many, it’s TET. (Since the entry amount is often paid from post tax income) and thus it amounts to double taxation of the same amount. Imagine you had Rs. 100 and you paid Rs. 30 tax on it, and invested the Rs. 70 into the EPF. The Rs. 70 after many years becomes Rs. 150, and now 60% of it is taxed again! This is not new (dividend distribution tax is a form of double taxation) but is strange to do. A better solution is to simply state that all input into EPF is 100% tax free, and all output is 100% taxed.
Another problem is that annuities from insurers are crap in India, and the annuity income is taxable. Instead of demanding that the EPF corpus is invested in annuities, the government should state that the money could be invested in a) government bonds and b) tax-free bonds just the same as annuities. With the rider that they cannot sell and must reinvest any principal if it matures. (Otherwise the money gets taxable) People can drip-sell and reduce tax liability on their own.
Not that this will happen, but still, there’s a need for suggesting solutions other than “roll it all back”.