TDS on interest on EPF exemption on enhanced rate of interest is desirable.

[C.A. DEV KUMAR KOTHARI]

Rate of interest on employees PF:

Higher rate of interest:

Recently on September 15,2010 the Labour Ministry has announced increased rate on interest  to 9.5 per cent. on deposits  in EPF accounts. The interest shall be credited on 28.02.2011. There is a one percentage point increase in the rate from the 8.5 per cent. paid in the last five years by EPFO.

Exemption:

As per S. 10(11) of the Income-tax Act, 1961 any payment from a provident fund to which the Provident Funds Act, 1925, applies or from any other provident fund set up by the Central Government and notified by it in this behalf in the official Gazette is exempt from tax. Therefore, it appears that entire amount of interest should be exempt in hands of persons to whose account such interest is credited.   

Some doubts have been created by press reports that interest on EPF account is presently exempted from TDS up to rate of interest of 8.5% therefore, TDS is also not required for interest credited to account of members. However, 1% extra interest will be taxable and will be subject to TDS as it is not exempted income.  

As per prevailing Finance Ministry notification the exempted rate is up to 8.5 per cent. Therefore, amount credited in excess of rate of 8.5% will be taxable. Unless the rate for exemption is revised the EPF Organization will be required to deduct tax on interest credited in excess of 8.5% and also to issue TDS certificates. This will increase lot of work for the EPFO and employees who will receive credit after TDS.

No cash accrual but TDS and taxable income can pose difficulty:

There will be credit of interest and not actual payment. Therefore, the 1% extra interest will be taxable but there will be no cash receipt in hands of employees whose accounts will be credited. This can cause difficulty of cash flow in hands of employees who are member of EPF organization.

Labor Ministry's stand:

Press Reports says that as per press reports the Labour Ministry is confident that the tax department will renotify the higher rate, as otherwise a lot of contentious issues will come up. This is because, the Central Board of Direct Taxes had notified a tax-free PF rate of 8.5 per cent. for 2010-11-effective from September 1. This means that the 1 per cent. extra income (or Rs. 1,700 crore in totallity) that the Labour Ministry has projected as a gift to the workforce, would be fully taxable. This is the first time ever that a part of income from provident fund would be taxable, if the tax department does not notify the higher rate.
Historically, the tax-free PF rate notified by the Income-tax Department has never been lower than the EPF rate declared for the year. Therefore it is expected by EPFO and employees who participate in it as member that CBDT shall increase the rate of exempted interest.
Difficulties:

Levying the tax would not be easy. The PF interest would be credited to workers' accounts at the end of the year. The trust in charge of the PF would be responsible for deducting the applicable tax at that time and then deposit with the Central Government.
EPFO manages 5 crore PF accounts therefore it will be quite problematic to handle the tax issue. For the reasons that EPFO simply does not have systems of appropriate size in place to deduct tax at source. Even if EPFO could deduct tax at source before crediting interest to members, the applicable income-tax bracket would vary for its members. For every deduction made, it would also have to give workers TDS certificates and have to upload TDS returns.

Work load on OLTAS:

TDS, TDS returns, TDS credit to be displayed on OLTAS etc. will also increase work load on OLTAS. It is doubtful, whether OLTAS will be able to handle the sheer volume.

No much purpose will be served by TDS:

As noticed from press report, the higher rate of 1% interest appears to be a onetime bonanza. This can be considered like a casual gift and may not be a recurring feature. There are many account holders who have small deposits due to account being new, contribution being smaller sums, therefore, interest thereon will not be a sizable amount. 1% of interest credited on a large number of account may not have a significant effect on revenue. Considering exemption limits etc. out of Rs.1700 crore a small sum of about about  5% of it that is about Rs. 85 crore will be taxable.

The cost of compliance, TDS , TDS returns, TDS certificates, uploading of TDS details on OLTAS and refund of TDS will be very high, time taking and cumbersome. Furthermore this being a one time gift, it is desirable that the Board should revise the rate of exempted interest to avoid TDS because interest will not be taxable. This will avoid un-necessary work. The Board can also clarify that interest will be fully exempt from tax in hands of recipients toa void any confusion and litigation. 

Short-lived gift of extra 1% EPF interest under tax-net

The Labour Ministry has hiked the employees' provident fund, or EPF, rate to 9.5 per cent., but a Finance Ministry notification says that anything in excess of 8.5 per cent. will be taxed.
The Labour Ministry is, however, confident that the tax department will renotify the higher rate, as otherwise a lot of contentious issues will come up. The Labour Minister had declared a 9.5 per cent. bonanza on provident fund deposits on September 15-marking a one percentage point increase in the rate from the 8.5 per cent. paid in the last five years.
But even before the EPF board met under the Labour Minister, the Central Board of Direct Taxes had notified a tax-free PF rate of 8.5 per cent. for 2010-11-effective from September 1. This means that the 1 per cent. extra income (or Rs. 1,700 crore) that the Labour Ministry has projected as a gift to the workforce, would be fully taxable. This is the first time ever that income from provident fund would be taxable, if the tax department does not notify the higher rate.
Historically, the tax-free PF rate notified by the Income-tax Department has never been lower than the EPF rate declared for the year.
But levying the tax would be far from easy. The PF interest would be credited to workers' accounts at the end of the year. The trust in charge of the PF would be responsible for deducting the applicable tax at that time.
Usually, the Income-tax Department notifies a tax-free PF rate for the whole year. But this year, it is only applicable from September 1. So the 9.5 per cent. provident fund return would be tax-free from April to August, but taxable thereafter. "For company-run trusts, this would be a headache - calculating the tax liability on 1 per cent. PF income for seven months," said a senior vice president at a private consultancy firm.
But the most acute problem will be faced by the Employees' Provident Fund Organisation-which manages 5 crore PF accounts.

Firstly, EPFO simply does not have the systems in place to deduct tax at source. All PF account withdrawals before completing five years of service, are fully taxable, as per existing income-tax rules. But the rule has never been implemented because of EPFO's unreliable manual record-keeping systems.
Even if EPFO could deduct tax at source before crediting interest to members, the applicable income-tax bracket would vary for its members. For every deduction made, it would also have to give workers a Form 16 statement. [Source : www.economictimes.com dated September 25, 2010]