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Friday, October 16, 2015

Tax Implications on PF Withdrawal before 5 years

A perfect retirement planning tool - Employee Provident Fund - can have serious tax implications which you may be unaware of. Get wiser by understanding the situations under which the EPF is taxed, and what all comes under the taxable EPF income....Read on..

In most cases, the accumulated PF balance is withdrawn at the time of retirement, and therefore, not taxable in the hands of the individual. But PF withdrawn before serving a continuous service of at least 5 years is taxable.

You may also withdraw / take advance from  your PF amount before retirement (but after spending 5 years of continuous service) without tax implications under very specific circumstances, which are listed in the blog post here: Withdrawal or Advance from EPF

Are all withdrawals before 5 years taxed?
However, in certain cases like change in employment, an individual may even withdraw the PF balance earlier than 5 years. In such cases where the  withdrawal is done prior to 5 years completion, the amount received from such PF is exempt from tax in specific cases. 
Only under the circumstances listed below will the amount withdrawn from PF be eligible for such exemption from tax:
  • If the employee has not rendered continuous service of five years, but the service is terminated by reason of the employee’s ill health or discontinuance of the employer’s business or reasons beyond the control of the employee, the amount will be tax-exempt.
  • On the cessation of the employment, the employee finds another job and the the accumulated PF balance is transferred to his individual PF account maintained by the new employer.

What all gets taxed if withdrawn before 5 years?
In such a case where you had no choice but to withdraw your PF Amount before 5 years of service completion, then the following amounts will be taxed on the withdrawn amount:
  • Payment received by the individual in respect of the employer’s contribution is taxed as “Salary”. So, all the employer contribution for your entire service duration will get taxed.
  • Interest accrual on the employer's contribution is taxed as “Salary”. Thus, not only the employer's contribution but the interest that you must have earned on that contribution also comes under the tax bracket.
  • Interest on the employee’s contribution is taxable as “Income from Other Sources”. Thus, the interest earned on the money that got deducted from your salary every month and was your contribution to your own PF Account also gets taxed.
  • Deduction claimed by you under Section 80C on your own contribution will be taxed as "Salary". The biggest chunk of Section 80C for salaried professionals is contributed by the PF contribution, and hence is applicable for tax rebate. This rebate is no more going to be valid and infact, will be reverted and taxed in such a case.
  • Payment received in respect of the employee’s own contribution is exempt from tax. Only the principal amount that you contributed from your salary remains tax exempt.

What are the applicable tax rates for withdrawal?
Income Tax Rate would depend on the applicable Income Slab in each of the Financial Year and payable in addition to the basic income tax.

Who deducts the tax?
I-T provisions provide that the trustees of a recognised PF or any person authorised by the regulations of the fund to make the payment of the accumulated balance to the employee should deduct tax at source (TDS) while paying the amount. 

Further, the person liable to deduct tax has to issue the certificate of tax deducted at source (Form 16) within the specified time frame to the employee depicting the details of taxes withheld from the accumulated PF balance and also comply with other salary-related compliance necessities. 

Tax Deducted at Source (TDS) for EPF Withdrawal
The Income Tax Department has instructed EPFO (Employees Provident Fund Organisation) to deduct Tax (TDS) from the withdrawal amount, if the withdrawal happened before completing five years of subscription.

Before June 1 2015:
  • TDS is deducted at the rate of your income slab (if you earn more than 10 lakh it would be deducted at 30%) minimum being 10%.  You would get form-16/16A for this deduction from your employer and you would need to show this deduction at the time of income tax return filing.
  • If your income in the year EPF is withdrawn is less than taxable limit (for example you are studying or not found a job) you can claim for refund.

After June 1 2015:
  • Income Tax shall be deducted at source (TDS) at the rate of 10 per cent provided PAN is submitted. TDS will be deducted, if at the time of payment of the accumulated PF, balance is more than or equal to Rs 30,000 with service less than 5 years. 
  • The body will also not deduct TDS where payment is less than Rs 30,000 but the member has rendered service of less than 5 years.
  • However, in case Form 15G or 15H is submitted by the member, then no TDS shall be deducted. These forms are to declare that their income would not be taxable after receiving payment of their PF accumulations from EPFO.
  • TDS will be deducted at the maximum marginal rate of 34.608 percent if a member fails to submit PAN or Form 15G or 15H.

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The book "From the Rat Race to Financial Freedom" has many such investment concepts explained in a very simple and uncomplicated manner, especially in the Indian context.


Manoj Arora
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