How much does your Employer contribute towards your PF account???

Our salary slips always show some contribution towards a Provident Fund (PF) account. We also see our employer contributing to the same account. However, most often than not, we are not aware how much is contributed by us and by the employer every month towards the Provident Fund Account.

Let us understand in detail about this fabulous long term savings instrument.

Types of PF

Statutory Provident Fund

A statutory provident fund is for the government and semi- government employees (ex: railway officer or any other government body/institution)

Recognized Provident Fund

A Recognized provident fund is the fund which is recognized under Employee Provident Fund and Miscellaneous Provisions (EPF & MP) Act 1952.

The recognized provident fund is further classified as 1) Government managed fund and 2) Private trusts managed by the organizations.

There are 3 critical components to Provident Fund

1)      Employee Provident Fund (EPF) – In this fund the employee and the employer contribute a defined amount every month with the objective of long term savings/savings for retirement.

2)      Employee Pension Scheme (EPS) – In this fund the employer and the central government contribute a defined amount every month with the sole objective of providing regular pension to the employee post retirement.

3)       Employee Deposit Linked Insurance (EDLI) – This scheme was introduced in 1976 and it provides life insurance cover to the members of Employee Provident Fund. The insurance amount is linked to the balance in the employee’s PF account with a maximum cover of Rs. 60000/- at any time. Only the employer contributes towards this scheme which is 0.5% of Rs.6500/-  

As per the Employee Provident Fund and Miscellaneous Provisions (EPF & MP) Act 1952, an establishment having 20 or more employees need to make contributions towards the Provident Fund.

The contribution needs to be either of the following for both the employer and the employee:

1)      12% of Specified salary ( Basic + DA)

OR

2)      12% of Rs. 6500/-

Contribution Matrix:

Contribution		EPF	EPS **
Employee	12% of specified Salary	12%	NIL
Employer	12% of specified Salary	3.67%	8.33%
Central Government	1.16% of specified salary	NIL	1.16%
Total Contribution per month		15.67%	9.49%

** EPS- Employee Pension Scheme which gives regular annuity after retirement.

Let’s take an example to understand the matrix:

Scenario 1

Mr A, draws basic salary and DA of Rs. 20000/- per month and the employer’s contribution towards PF is similar to Mr. A’s contribution. Their contribution is not on specified salary but on the statutory limit of Rs. 6500/-

Contribution		EPF	EPS
Employee	12% of 6500	780	NIL
Employer	12% of 6500	239	541
Central Government	1.16% of 6500	NIL	75.4
Total Contribution per month		1019	616.4

Scenario 2

Contribution is not on statutory limit of Rs.6500/- but on the specified salary i.e. Rs.20000/-

Contribution		EPF	EPS
Employee	12% of 20000	2400	NIL
Employer	12% of 20000	1859	541 *
Central Government	1.16% of 6500	NIL	75.4 *
Total Contribution per month		4259	616.4

*(Note: Contribution by Employer and Central Government towards EPS (Employee Pension Scheme) is always on Rs. 6500/- (i.e. incase of Employers contribution the balance is contributed towards EPF: 2400-541= 1859) 

Hence, as seen in the above two scenario’s you and your employer would be either contributing Rs.780 or Rs.239 respectively towards your PF account or 12% and 3.67% of your specified salary.

Contributing towards Provident Fund always proves to be fruitful because of the following reasons:

1)      Employee’s contribution towards PF is exempt from tax u/s 80C of Income Tax Act, 1961, with a maximum limit of Rs.1 Lakh.

2)      Interest accumulated is tax free.

3)      Safest instrument as return is guaranteed by the government.

4)      The entire corpus is tax free during maturity.

 (Note: Employer’s contribution is tax free during maturity only if the account is active and maintained for a minimum of 5 years)

Points to be noted:

1)      Always make sure you have nominated someone for your PF account. You can nominate one or more nominees for the account. They should be your family members. Only if a person doesn’t have a family, can he nominate any other person.

2)      Even if you shift your job, always maintain one PF account. This will be beneficial over the long run due to compounding of interest in the same account and secondly becomes easier to track.

3)      Provident Fund account gives 8.5% tax free return (except in 2010-11 where EPFO declared interest at 9.5%) which comes to 12.14% pre tax return. This is much higher than the Bank FD rates and more secured.

 So what are you waiting for!!! Contact the concerned department in your organization immediately and increase your contribution towards Provident Fund.

Disclaimer: The data and information provided in this article is only for informational purpose. This being a personal web log, the opinions expressed here represent my own and not those of my employer.

FMP's or FD's... What are you opting for!!!

In the recent past, many negative events have unfolded which has kept the Indian equity markets volatile. The devastating Tsunami in Japan and the political unrest in MENA nations (Middle East & North Africa) has led to a rise in the international prices especially crude oil which in turn has restricted the domestic inflation to cool down. Inflation rate as on March, 2011 has been recorded at 8.98%, higher than RBI's expectation of 8% by March end.

As a measure to cool down the inflation, RBI has increased the key rates (Repo & Reverse Repo rate) eight times since March, 2010 and is expected to do the same in its monetary review on 3^rd

 May as well.

This increase in the key rates has enforced the banks to increase their Fixed Deposit rates across various tenures. The volatility in the equity markets has also left the investors apprehensive on the future outlook and hence they have started parking their excess funds in Bank FD's at the so called attractive rates.

But, are Bank FD rates really attractive even at this stage.

My answer would be NO simply because at face value we might earn 10% p.a. return for a 1 year FD, however a post tax return would give a yield of 7% p.a. (assuming highest tax bracket) which does not even beat the inflation in today's terms.

In such a scenario, FMP's or Fixed Maturity Plans can act as a substitute to Bank FD's.

Comparison between FD’s and FMP’s

Instrument	FD's	FMP's
Offerings	Offered by Banks	Offered by Mutual Funds
Tenure	Pre Defined	Pre Defined
Return	Assured return	Estimated return
Portfolio	Used for lending	Proceeds invested in Debt Papers
Taxation	Taxed at marginal rate	As per indexation*

*Indexation – accounting for increase in cost of living due to inflation

FMP's are debt instruments offered by Mutual Funds which usually invest in debt papers like Certificate of Deposits, Corporate Fixed Deposits, Commercial Papers & other Money Market instruments. Since most of the FMP's are traded on the exchange, it also gives an exit route to the investors (with some exit load).

FMP’s are more preferable than the Bank FD’s as they offer higher post tax return and this is proved from the below example.

Particulars	FMP (with indexation)	FD
Investment Month	Feb, 2011	Feb,2011
Amount invested	100000	100000
Assumed rate of return / interest (pa)	10%	10%
Tenure of investment (days)	365	365
CII-Year of investment (2010-2011)	711	-
CII-Year of maturity (2011-2012) **	760	-
Indexed cost	106891.70	-
Value at maturity	110000	110000
Interest income	10000	10000
Capital gain / loss adjusted for indexation	3108	-
Applicable tax rate	22.66%	33.99%
Long-term capital gains tax liability	704	3399
Net gain	9296	6601
Post-tax returns at maturity (pa)	9.30%	6.60%

(**CII – cost inflation index for 2011-2012 is assumed to grow @7%. Every year it is declared by CBDT)

The above clearly indicates that even though both the products offer similar pre tax return, FMP’s due to the indexation benefit offer a higher post tax return.

All said & done, nothing comes for free. As FMP’s offer higher return, the risk component is also marginally higher than Bank FD’s. This is due to the interest rate risk and quality of papers they invest in.

But now a days the mutual funds floating the schemes have to follow stringent guidelines laid by the regulator, hence the investors that normally come under the 20% and 30% tax bracket can opt for Fixed Maturity plans and be one step closer in achieving their Financial Goals.

Happy Investing!!!

Disclaimer: The data and information provided in this article is only for informational purpose. This being a personal web log, the opinions expressed here represent my own and not those of my employer.