Provident Fund and Tax Rules You Must Know

Is Provident Fund Taxable?

Provident Fund, though widely considered as tax exempted, there are certain cases where provident fund will be taxed. The best example is  the retirement of an employee before 5 years of service.

If the employee retires before 5 years of service, the provident fund on withdrawal may be taxable.

How is the TDS on provident fund calculated?

The total tax payable by employee is calculated in respect of his total income for each year concerned as if the fund has not been a recognized provident fund. (Rule 9 of Part A of the Fourth Schedule – When the service is less than 5 years.)

So the tax for each year is calculated by by treating the PF contribution as to that to a un-recognized provident fund.

What is an unrecognized provident fund?

The below mentioned are the types of provident fund in India.

  • Statutory Provident Funds
  • Public Provident Funds
  • Recognized Provident Funds
  • Unrecognized Provident Fund

In an unrecognized provident fund, during continuity of service,  Employees contribution is not tax exempted, but Employer contribution is tax exempted. But upon retirement/withdrawal employer’s contribution  as well as interest is taxable. In short every component in the PF is taxed by the time of withdrawal!

Example of Tax calculation on Provident Fund:

1st year :

Salary  : 2,00,000

PF employee contribution : 2,ooo

Tax : 200

Employee contribution : 1000 ( Not taxable now, but only upon withdrawal)

2nd year :

Salary   : 2,00,000

PF employee contribution : 2,ooo

Tax : 200

Employer contribution : 1000

If withdrawing PF on the end of 2nd year,

Employer contribution so far, ie 1000+ 1000 will be added to the total taxable income, and tax is calculated. The additional Rs.2000 will be taxed now as Rs.200.

PS: All rates calculated by keeping Rs.2 lakh as income tax limit and 10% as tax rate.

Cases when the provident fund is not taxable

Rule 8 of Part A of the Fourth Schedule
– – – – – the accumulated balance due and becoming payable to an employee participating in a recognized provident fund, is exempt if:

  1. employee has rendered continuous service with his employer for five years or more,
  2. service is terminated by ill health or discontinuance of business beyond control of employee or
  3. on cessation of employment, the accumulated balance is transferred to another recognized provident fund maintained by the employer where the employee obtains employment.