Taxability of PF Withdrawal and Interest Earned on Accumulated Balance

Provident Fund (PF) is one of the most popular saving tools in India, particularly for salaried individuals. It serves as a long-term retirement savings scheme, where both the employee and employer contribute towards the fund, and the accumulated balance earns interest over time. However, when it comes to withdrawing from the PF and the interest earned on it, taxpayers often have questions about the taxability of these funds. In this article, we will explore the tax implications of withdrawing from the Provident Fund and the interest earned on the accumulated balance.

Understanding Provident Fund (PF)

The Employee Provident Fund (EPF) is a mandatory savings scheme under the Employees’ Provident Fund Organisation (EPFO) for employees working in the organized sector. Under the scheme:

Employees contribute 12% of their basic salary and dearness allowance (DA) towards their PF account.

The employer matches the employee’s contribution, and a portion of the employer’s contribution is directed towards the Employees’ Pension Scheme (EPS).

The funds are managed by the EPFO and are tax-deferred until they are withdrawn or transferred. The interest earned on the balance also compounds over time, adding to the employee’s accumulated amount.

Taxability of PF Withdrawal

The taxability of a Provident Fund withdrawal depends on the duration of the employee’s service, the type of withdrawal (partial or full), and the circumstances surrounding the withdrawal.

The PF withdrawal other than interest is exempt in the following cases as per Schedule4 PartA Rule8 of Income Tax Act 1961

• When the Employee withdraws the amount after being in a continuous period of 5 Years as per EPFO Act 1952 or
• The Employee has been terminated due to ill-health, or by the contraction or discontinuance of the employer’s business or other cause beyond the control of the employee.

What if the Withdrawal Before 5 Years of Service or any other cause other than above

If an employee withdraws the balance before completing 5 continuous years of service or other causse, the amount withdrawn is subject to tax. Both the contribution made by the employee and employer, along with the interest earned, will be taxed as income from other sources in the year of withdrawal. The tax treatment of the PF withdrawal is as follows:

Employee’s Contribution: The employee’s contribution to the PF is not taxable as it was already made from after-tax income. If the employee has claimed any deductions of such contributions in Sec 80C of Income Tax Act, 1961, then it is taxable to the extent of deduction benefit gained in accordance with the tax rates prevailing in such respective years.

Employer’s Contribution: The employer’s contribution is subject to tax.

Taxability of Interest Earned on PF Balance

Interest earned on the provident fund balance is only taxable when the employee contribution to the PF fund is more than 2,50,000/- in any year after 01.04.2021. and is in a continuous service for 5 Years.

Where there is no employer contribution to the PF i.e., Public Provident Fund, in such case the aggregate contribution limit per year will be 5,00,000/- instead of 2,50,000/-.

Other Exceptions to Taxability

In certain situations, even if the employee does not complete 5 years of continuous service, the withdrawal may still be exempt from tax:

Transfer of PF Balance: If the employee changes jobs and transfers the balance to a new employer’s EPF account, then the transferred balance will not be taxable.

Transfer to Pension Scheme: If the employee transfers the PF balance to the pension scheme referred to in Section 80CCD and notified by the Central Government.