Union Budget – 2021: Taxation of Interest on Employee Provident Fund & ULIP
Saving tax by diverting the fund in the instruments yielding tax free returns is one of the most powerful tax planning tools in the hands of the taxpayers. Many high salary earners were investing an extra amount in the employee provident fund & thereby able to earn tax free interest income. Similarly, many High Net worth Individuals (HNI) were investing the amount in Unit Linked Insurance Plan (ULIP) wherein investment was coupled with insurance and the final maturity proceeds was totally tax free u/s 10(10D).
Every Budget is now exploring the possibility to tax such individuals who were able to generate tax free returns by diverting excessive sums in such tax free instruments. Though the tax rate has not been changed by the Union Budget-2021, the tax burden has been increased for few taxpayers as following two incomes has now been brought in the tax net:
a) Taxation of Interest received on Employee Provident Fund &
b) Taxation of ULIP
Let us know more about the changes proposed for taxation of above incomes.
- Interest on Employee Provident Fund:
a) Presently Section 10(11) and 10(12) of the Income Tax Act provides blanket exemption to interest income on statutory provident fund (SPF) and recognized provident fund (RPF) respectively. As a result, presently the interest income of an employee from provident fund is totally tax free. Employee provident fund is operating under the E-E-E mode whereby contribution was exempt, interest earned therefrom was also exempt and the amount withdrawn at the time of maturity is also exempt.
b) Amendment has been proposed in above provision by clause 5 of Finance Bill 2021 by inserting Proviso to Sections 10(11) and 10(12) which provides as under:
“providing that the provisions of these clauses shall not apply to the interest income accrued during the previous year in the account of the person to the extent it relates to the amount or the aggregate of amounts of the contribution made by the person exceeding Rs. 2, 50,000 in a previous year on or after the 1st day of April 2021 and computed in such manner as may be prescribed” - c) As a result, Interest Income on the contribution in excess of Rs. 2.50 Lakh to the Employee provident fund will not enjoy the status of exempt income in the hands of the employee.
d) Now, all the employees who choose to invest a significantly higher proportion in EPF through voluntary contribution will be hit. It means that now an employee would be required to add the interest earned on contribution over Rs. 2.50 Lakh in their taxable income.
e)How the Interest will be calculated:
At present, PF statement displays one consolidated figure of interest earned on the balance in the account which includes contribution of both, employee as well as employer. The mode of calculation of interest is yet not clear. But it is expected that provident fund statements will make the bifurcation clear and the employee will be provided with the interest bifurcation as to taxable interest and tax free interest.
f) Will TDS be applicable on the interest on employee’s PF contribution of over Rs 2.5 lakh?
Normally, TDS @ 10% is applicable on interest income unless it is falling in the exempt category. Such interest component shall be subject to TDS under Section 194(a) by the EPFO. However, prescribed rules are awaited in this regard.
h) Other key features of the Amendment:
i) Only contribution made on or after April 1, 2021 shall be taxable now. Interest earned by the employee till 31stMarch 2021 will continue to be exempt.
ii) The interest income earned on excess contribution will be taxable only in those cases where the employees’ annual PF contribution exceeds Rs. 2,50,000/-.
2. Restricting benefit of exemption in respect of amount invested in ULIP to Rs. 2.50 Lakh
At present, any amount received from Unit linked Insurance Plan (ULIP) is exempt u/s 10(10D) of the Income Tax Act-1961. However, exemption u/s 10(10D) is not available in respect of the following policies:
(a) any sum received u/s 80DD(3) or u/s 80DDA(3); or
(b) any sum received under a Keyman insurance policy; or
(c) Any sum received in respect of any policy issued,
(i) between 01.04.2003 to 31.03.2012, if the premium in any years exceeds 20% of the actual capital sum assured
(ii) After 01.04.2012, if the premium in any years exceeds 10% of the actual capital sum assured.
However, if the policy is issued for the life of a person with specified disability or person suffering from specified diseases then 10% needs to be replaced by 15%.
Amendment by the Union Budget – 2021:
1. Exemption u/s 10(10D) for sums received under a ULIP shall not be available if the following criteria is fulfilled:
a) Where the amount of premium payable under any ULIP issued on or after 01/02/2021 for any of the previous year during the term of ULIP exceeds Rs. 2.50 Lakh
b) Where aggregate premium payable by a person for multiple ULIPs, issued or after 01/02/2021, exceeds Rs. 2.50 Lakh in any of the previous year during the term of any of those ULIPs.
2. Sums received on account of death of insured will still continue to be exempt.
3. ULIP not eligible for exemption u/s 10(10D) as discussed above will be considered as “Capital Assets” and will be treated as Units of an Equity Oriented Fund.
4. Profit & Gains on sale of ULIP will be taxed under the head “capital Gain” in the previous year in which such amount is received. It will be taxable as per the rates provided u/s 111A (15% plus applicable surcharges & cess) or U/s 112A (10% plus applicable surcharge & cess) depending on whether such units are held as short term or long term capital assets.
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