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For employees who are covered under EPF(Employee Provident Find or EPF), besides their compulsory contribution to PF there is a provision for an additional or Voluntary contribution to EPF popularly called as Voluntary Provident Fund or VPF. The employer will not contribute more. How does taxing of interest on EPF contribution of more than 2.5 lakhs affects VPF? Will it lead to the death of VPF? Let’s find out more about what is VPF? How to contribute? Should one contribute?

From 1 Apr 2021, tax on the interest earned on Employee Provident Fund (EPF) above Rs 2.5 lakh per annum. This was earlier exempt.

This means that a person contributing only up to Rs 20,833 a month to PF i.e has a basic salary of up to Rs 1.73 lakh a month will not have to pay the tax.

Under the new wage code, effective from 1 Apr 2021, at least 50% of the wage/salary will be a basic salary

Voluntary Provident Fund or VPF and passbook

Voluntary Provident Fund or VPF and passbook

What is the Voluntary Provident Fund or VPF?

In EPF, an employee has to contribute 12% of his basic pay towards his provident fund account. An equal amount is contributed to by his employer. Apart from contributing the normal 12% of his basic pay, an employee may voluntarily choose to contribute more than 12% he can do so up to 100% of basic and D.A. This is called Voluntary Provident Fund. But the employer will contribute an amount matching only the 12%  Here are some of the basic VPF Rules & Guidelines:

  • VPF scheme can be availed only by salaried professionals enrolled with the EPF. And its Voluntary.
  • An employee may voluntarily choose to contribute more than 12%. But the employer will contribute an amount matching only the 12% 
  • You can contribute 100% of basic pay plus dearness allowance(DA) as an investment in VPF.
  • The contribution is to EPF and not to EPS, Pension Scheme
  • The contribution will earn the same rate as normal EPF contribution.  The interest rate for the Year 2019-20 is 8.5% while for year 2018-19 was 8.65%
  • Investments in VPF are considered equivalent to investment in any other investment instruments under section 80C. The tax exemption is till Rs.1.5 lakh.
  • VPF is deposited to your existing PF account
  • Theoretically one can start contributing to VPF any time and can stop contributions at any time as well. One can also change the amount to contribute to VPF anytime. But usually, the Finance/Payroll department in the company allows the change once or twice a year and usually at the beginning of the financial year.
  • Once the contribution is made through VPF, it is treated exactly like contribution through PF, there is no difference. All rules that apply to interest rate/loan/transfer/withdrawal from EPF apply to VPF as well.
    • In passbook, VPF contribution does not appear differently.
    • When you transfer/withdraw PF, you will automatically transfer/withdraw VPF amount too.
    • So If the EPF money is withdrawn within five years, you will have to pay tax on the interest amount earned from your contribution towards the VPF.

While one gets a good risk-free return, one should be prepared to have your money locked in, till the time of retirement/withdrawal on resignation. In case one makes a premature withdrawal, before five years of continuous service and contributions in EPF as discussed one will have to pay tax.

Basic Salary and Dearness Allowance

As the name suggests, Basic Salary forms the very basis of salary. This is the core of salary, and many other components may be calculated based on this amount. It usually depends on one’s grade within the company’s salary structure. It is a fixed part of one’s compensation structure. Many allowances and deductions are described in terms of percentage of the Basic Salary. For example, Your PF is deducted at 12% of your Basic Salary. HRA is also defined as a percentage of this Basic Salary.

Under the new wage code, effective from 1 Apr 2021, at least 50% of the wage/salary will be a basic salary. Details in our article New Wage Code: Will Your Salary fall? How it affects EPF, Gratuity

HRA, LTA are examples of Allowances Allowance is defined as a fixed quantity of money or other substance given regularly in addition to salary for meeting specific requirements of the employees. Some allowances are taxable, some are partially taxable and some are tax-free.

Dearness Allowance is allowance is paid to the employee against the price rise in country economy i.e to reduce the impact of inflation. In India, the Dearness Allowance (DA) is a cost of living adjustment allowance paid to Government employees, Public sector employees (PSU) and pensioners. Private employers typically do not get Dearness Allowance.

Our article, Salary, Net Salary, Gross Salary, Cost to Company: What is the difference, explains it in detail. The formula and payslip showing salary are shown below.

Gross Salary = Basic Salary + Allowances + Perquisites + Fees, Commission and Bonus + Variable Pay+ Retirement Benefits (EPF/NPS)

Net Salary = Gross Salary – Tax (Income Tax, Professional Tax)

CTC = Net Salary + Indirect Benefits( Food coupons, Interest Free Loans)

Sundar Pichai, CEO of Alphabet(Google) was awarded $281 million in compensation? But Pichai’s annual salary in 2019 was $650,000 and the rest was in stock options

Example of Payslip which shows Basic Salary

Example of Payslip which shows Basic Salary

Can one change contribution to VPF?

Typically one can start contributing to VPF any time and can stop contributions at any time as well. One can also change the amount to contribute to VPF anytime. But usually, the Finance/Payroll department in the company allows the change at the beginning of the financial year. Please check with your employer.

Typically, the employee must give his option and amount of contribution in writing at the beginning of the financial year, i.e. in April. The amount of contribution can be reduced or increased within the permissible limit once a year, also in the month of April.

VPF and Tax

Both EPF and VPF are exempt from tax implications, under Section 80C. Investments in VPF are considered equivalent to investment in any other investment instruments under section 80C. The tax exemption is Rs.1.5 lakh.

Budget 2021 and effect of Tax on Interest on EPF

Union Budget 2021 proposal which comes into effect from 1 Apr 2021, that employee contributions made to the Employees’ Provident Fund (EPF) or exempted PF trusts above 2.5 lakh would trigger taxability on the interest accrued on the amount above the threshold limit. The tax would eat into returns from VPF.

Will it make sense to continue investing in VPF after this change, especially for those in the higher tax bracket?

How much contribution to VPF is tax-free?

A person contributing up to Rs 20,833 a month to PF i.e has a basic salary of up to Rs 1.73 lakh a month will not have to pay the tax.

How much can you invest in EPF without attracting tax

How much can you invest in EPF without attracting tax

What are EPF returns after the tax?

The tax would eat into returns from VPF as shown in the image below.

What are EPF returns after the tax

What are EPF returns after the tax

Alternatives to VPF?

VPF investors will have to assess their risk appetite and look for alternatives like Small savings schemes(PPF, KVP etc), Fixed Deposit, NPS, Gilt funds

The interest rate on EPF is typically higher (8.5 percent) rather than other small savings schemes such as public provident fund, senior citizen savings scheme, Kisan Vikas Patra, and Sukanya Samriddhi and fixed deposit.

This higher rate prompts employees to put higher corpus in EPF, which in turn makes it difficult for the government to pay interest on the same

Tax-free bonds give a yield of 4.5% which is lower than the post-tax return of VPF

One can invest in PPF(Public Provident Fund) if one has not exhausted the limit of Rs 1.5 lakh.

For conservative investors, gilt funds or constant maturity gilt funds, or target date gilt/index funds would be a good option.

NPS and VPF

NPS has scored in terms of returns over EPF in the past few years, but its returns are not as risk-free as EPF’s, but they are competitive in terms of tax efficiency now.

Returns on NPS are market-linked. Over the past five years, equity schemes in NPS have given returns of 15-16%, corporate bond funds 9-10%, and government bond funds 10-11%. However, these returns fluctuate considerably compared to the 8-9% interest historically paid out on EPF. Details in All About NPS, National Pension Scheme

They both get a tax deduction at the contribution stage (EPF up to 1.5 lakh and NPS up to 2 lakh);

Interest accumulation is tax-free for both

but there is a minor difference at the withdrawal stage. While the entire EPF corpus is tax-free until FY20 (which will now change once the budget proposal is implemented in FY21), only 60% of the NPS corpus is tax-free. The remaining 40% mandatorily goes into buying an annuity which is taxable.

The image below shows the comparison of NPS and EPF

Comparison of NPS and EPF

Comparison of NPS and EPF

Should One invest in VPF?

With the EPF and VPF scheme, you will receive a fixed rate of interest for the entire tenure of the account

EPF also falls under the EEE tax regime wherein the interest received (on retirement from service or after 5 years of continuous service) is tax-free.

While one gets a good risk-free return, one should be prepared to have your money locked in, till the time of retirement/withdrawal on resignation

Though the Provident Fund scheme is extremely safe, upon retirement, the amount saved up will be sizable but may not be enough to cover the rising costs of living and inflation of the economy. Taking this into consideration, investing in EPF and VPF alongside other investments is advisable. For example, investing in mutual funds and SIPs in diversified equity funds will result in much higher returns. By investing in both, you can reap the benefits of a fixed-income product as well as a long-term growth product.

How much more can I save using VPF?

An employee starts with a basic salary of Rs. 20,000 at 25 years and works till 60 years. Every year, on average, he gets a 5% increment. He contributes 12% of his basic salary towards PF which is matched equally by one’s company, (EPF contribution is 3.67%, EPS 8.67%). Over the course of 35 years of his working life, his total contribution is Rs. 26.01 Lakhs. Of course, his company makes a contribution of Rs. 7.955 Lakhs, a total contribution of Rs 33.967 lakh. And this amount grows into – Rs. 1.38 Crores at the time of his retirement in 35 years!

More the EPF contribution more the compounding, you would save more.

What is the difference between VPF and EPF?

EPF is a compulsory contribution while VPF is voluntary.

Once the contribution is made through VPF, it is treated exactly like contribution through PF – there is no difference.

VPF is deposited to your existing PF account. Therefore, all rules that apply to interest rate/loan/transfer/withdrawal from EPF apply to VPF as well. When you transfer/withdraw PF, you will automatically transfer/withdraw VPF amount too – as VPF is part of your PF account, it can be transferred or withdrawn along with PF amount.

How can one start contributing to VPF?

You can start VPF by contacting the Finance/Payroll department of the company. Submit a joint declaration form given below.

Filled VPF Form

Filled VPF Form

VPF and Passbook

VPF amount is available in the passbook which can be downloaded from EPF site. There is no distinction between mandatory EPF and optional VPF amount. The image below shows the EPF passbook where in Jul 2016 the employee started contributing to VPF. So the contribution on EPF jumped from 6,943 to 14,078. Note employer contribution to EPF or EPS did not increase.

Voluntary Provident Fund or VPF and passbook

Voluntary Provident Fund or VPF and passbook

Why is VPF not popular?

With more options available like PPF /MFs the VPF has no major attraction in employee community. This was in practice in early years as many employees’ savings are only through ‘Forced’ deductions. As per Investment Consultant, Sandeep Shanbhag in  says “Companies usually do not encourage their employees because it would mean a higher interest cost for the trust”. 

While one gets a good risk-free return, one should be prepared to have your money locked in, till the time of retirement/withdrawal. In case one makes a premature withdrawal, before five years of continuous service and contributions in EPF as discussed in , one will have to pay tax.

What is the difference between EPF, VPF and PPF?

EPF is also referred to as PF stands for Employees’ Provident fund and PPF stands for Public Provident fund. As the name suggests, only eligible employees working in some organisation can subscribe to EPF through their employer, whereas a PPF account can be opened by any resident individual in India. Some more differences are given below

Features Public Provident Fund Employee Provident Fund Voluntary Provident Fund
Who can Invest? Any Resident Indian, except NRIs Any Resident Employed Individual Any Resident Employed Individual
Min Period of Investment 15 years Up to retirement or resignation, whichever is earlier Up to retirement or resignation, whichever is earlier
Employee Contribution on Basic + DA N.A 12% of Basic salary Voluntary (Upto 100% of Basic)
Employer Contribution N.A 12% of Basic salary N.A
Taxation on Maturity Returns None Tax Free Tax Free
Tax  Deduction As per section 80 C As per section 80 C As per section 80 C
 Maturity  Can be extended indefinitely by extending for 5 years each after that.  Can transfer account to new company till retirement.  Can transfer account to new company till retirement.
Maximum Loan amount Partial withdrawals are permitted Partial withdrawals are permitted Partial withdrawals are permitted

Comparison of the Interest rate of EPF and PPF

The interest rate of PPF and EPF over last few years is given below.
Comparison of Interest rate of EPF and PPF

Comparison of Interest rate of EPF and PPF

Video on VPF

This 5-minute video explains What is VPF?, Voluntary Provident Fund – Should one opt for it?

How well do you understand VPF?

Can you answer these questions about VPF? Drop in the comment, if you can

  • Can VPF be availed by anyone?
  • Is VPF Compulsory?
  • I have a PPF account can I have VPF?
  • How much can one contribute to VPF?
  • Can one increase, decrease, stop VPF contribution?
  • How much interest rate does VPF earn?
  • Are there any tax benefits for VPF?
  • What happens to VPF when you leave your job?
  • When can you withdraw from VPF?
  • What changes effective from 1 APr 2021 will affect the EPF & VPF?

Related Articles:

All About EPF,EPS,EDLIS, Employee Provident Fund
All About UAN or Universal Account Number of EPF

Salary, Net Salary, Gross Salary, Cost to Company: What is the difference

New Wage Code: Will Your Salary fall? How it affects EPF, Gratuity

Hope you have found this article helpful. Is VPF popular? Should one contribute to VPF? Have you contributed to VPF? Or you contribute to PPF? if given a choice would you choose VPF or PPF?

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