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Should you reduce VPF share as new rules kick in?

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Effective 1 April, if you are contributing more than 2.5 lakh in your Employees’ Provident Fund (EPF), the interest earned on the same will be taxable as per the newly notified rules under the Finance Act 2021.

This has made some people wonder if they should continue contributing towards a voluntary provident fund (VPF) which earns the same interest as that of EPF and enjoys the same tax treatment.

“We have got various queries from our clients who are asking if they should continue with the investments or not,” said Prakash Hegde, a Bengaluru-based chartered accountant.

Employees will need to inform their employers at the beginning of the financial year about the VPF contributions or any change in the same.

BUDGET PROPOSAL

In Budget 2021, the government proposed to tax the interest earned on employee’s contribution above 2.5 lakh. The government has further raised the statutory limit to 5 lakh in those cases where there is no contribution by employers. This amendment will benefit government sector employees.

Most of the experts are advising their clients to continue investing in VPF as it is currently offering an interest rate of 8.5%, which is much higher than the interest rate being offered by small savings schemes such as public provident fund (PPF).

PPF is offering an interest rate of 7.1%, which was revised downwards to 6.4% for the quarter ended 30 June 2021. However, after an outcry, the government decided to roll back the decision.

BETTER RETURNS

Even after being taxed at 30%, a person will earn interest at the rate of 5.95%, which is more than the post-tax return of traditional instruments such as a bank fixed deposit.

Suppose a person is contributing 5 lakh towards EPF and VPF combined, then the tax liability will be around 6,375 (30% of 8.5% of 5 lakh minus 2.5 lakh) for the year for the person in the highest tax bracket. Therefore, it will make sense to continue investing in VPF for long-term debt investments.

“We are advising our clients to continue investing in VPF as even the post-tax return will be better than most of the other instruments,” said Hegde.

Melvin Joseph, Sebi-registered investment adviser and founder, Finvin Financial Planners, added: “For those in the higher tax bracket, VPF will remain a good option within the debt category.”

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