How to check if the employer EPF and NPS contribution is taxable or non-taxable?

Taxability on Employer Contribution to EPF and NPS

EPF and NPS contribution

For the salaried class, Employee Provident Fund (EPF) is an integral part of retirement planning. With a contribution to EPF, interest earned on it as well as the matured amount exempt from income tax, it is a popular investment for tax planning too.

Investment in National Pension System (NPS) can be made through its Tier-I and Tier-II accounts. Apart from tax benefits under section 80C, NPS Tier-I investments are also eligible for an additional tax deduction under section 80CCD (1B).

Despite their reputation as tax-saving investments, you cannot go on and on investing in EPF and NPS. Employer and employee contributions, interests earned, and maturity amounts are exempt but only up to a certain point. If you are investing in EPF and NPS or planning to do so, read on to find out when to stop.

Also Read: Salaried today self-employed tomorrow? Can you still continue your EPF account?

Employer Contributions to EPF and NPS

  • EPF - Under the Employees’ Provident Funds and Miscellaneous Provision Act, 1952 employees have to contribute 12% of their salary towards their EPF account. The employer must contribute the same amount to the employee’s EPF account. Employees can claim a deduction on their contribution up to a maximum of Rs 1.5 lakhs per annum. Employer’s contribution of up to 12% of salary to EPF is not taxable in the hands of the employee.

Any contribution by your employer beyond 12% of your basic + dearness allowance is taxable in your hand.

  • NPS – Employer’s contribution to NPS-Tier I can be claimed as a tax deduction under section 80CCD (2). The limit is set at 10% of salary, which is 14% in the case of central government employees.

Apart from these individual limitations, a slab has been defined to identify the taxable contributions of an employer towards EPF, NPS and superannuation funds.

Slab on Employer Contribution

Employer’s contribution to EPF, NPS and superannuation is exempt from tax up to a limit of Rs 7.5 lakhs. This limit has become effective from the financial year 2020-21. Any contribution beyond this limit is taxable in the hands of the employee. Additionally, the interest and dividend earned on such excess amount also become taxable as salary.

Also Read: What is National Pension System and how it works

How to Check Taxability

The first source of information is your appointment letter or latest appraisal letter. It will mention the employer’s contribution to EPF and NPS accounts. Employer contribution made towards NPS under section 80CCD (2) is also mentioned in these documents.

Out of the 12% EPF contribution made by the employer, 8.33% goes to the Employees’ Pension Scheme, while the remaining 3.67% goes to the EPF account. However, EPS contribution can be a maximum of Rs 15,000 per annum or Rs 1,250 per month. Any contribution above it will go to the EPF account. Both the EPF and EPS amount contributed by the employer are considered while calculating the Rs 7.5 lakhs limit. Besides, the employer’s EPF (and EPS) contribution operates under the individual limit of 12% of salary, beyond which it is taxable.

Calculating the Taxable Portion

Rule 3B of the Income Tax Rules, 1962 describes the process of calculating the interest and dividend on the employer contribution beyond Rs 7.5 lakhs. Its formula is,

TP = (PC/2) *R + (PC1+TP1) *R, where,

  • TP is the taxable perquisite,
  • PC is the total employer contribution to EPF, NPS and superannuation fund minus Rs 7.5 lakhs,
  • R is the interest earned/average opening and closing balance of the fund,
  • PC1 is the excess contribution made in previous years, and,
  • TP1 is the interest on excess contributions earned in previous years.

Employers must determine the taxable perquisite on excess contributions, withhold taxes on such perquisites, and report the same in Form 16 and Form 12BA.

Needless to say, these tax implications will mostly affect people with high basic salaries. Finally, as the taxpayer, you must report the excess employer contribution and the taxable perquisite arising out of it in your Income Tax Return (ITR). Select the ITR form carefully, depending on your sources of income during the year, to avoid Income Tax notice

For the salaried class, Employee Provident Fund (EPF) is an integral part of retirement planning. With a contribution to EPF, interest earned on it as well as the matured amount exempt from income tax, it is a popular investment for tax planning too.

Investment in National Pension System (NPS) can be made through its Tier-I and Tier-II accounts. Apart from tax benefits under section 80C, NPS Tier-I investments are also eligible for an additional tax deduction under section 80CCD (1B).

Despite their reputation as tax-saving investments, you cannot go on and on investing in EPF and NPS. Employer and employee contributions, interests earned, and maturity amounts are exempt but only up to a certain point. If you are investing in EPF and NPS or planning to do so, read on to find out when to stop.

Also Read: Salaried today self-employed tomorrow? Can you still continue your EPF account?

Employer Contributions to EPF and NPS

  • EPF - Under the Employees’ Provident Funds and Miscellaneous Provision Act, 1952 employees have to contribute 12% of their salary towards their EPF account. The employer must contribute the same amount to the employee’s EPF account. Employees can claim a deduction on their contribution up to a maximum of Rs 1.5 lakhs per annum. Employer’s contribution of up to 12% of salary to EPF is not taxable in the hands of the employee.

Any contribution by your employer beyond 12% of your basic + dearness allowance is taxable in your hand.

  • NPS – Employer’s contribution to NPS-Tier I can be claimed as a tax deduction under section 80CCD (2). The limit is set at 10% of salary, which is 14% in the case of central government employees.

Apart from these individual limitations, a slab has been defined to identify the taxable contributions of an employer towards EPF, NPS and superannuation funds.

Slab on Employer Contribution

Employer’s contribution to EPF, NPS and superannuation is exempt from tax up to a limit of Rs 7.5 lakhs. This limit has become effective from the financial year 2020-21. Any contribution beyond this limit is taxable in the hands of the employee. Additionally, the interest and dividend earned on such excess amount also become taxable as salary.

Also Read: What is National Pension System and how it works

How to Check Taxability

The first source of information is your appointment letter or latest appraisal letter. It will mention the employer’s contribution to EPF and NPS accounts. Employer contribution made towards NPS under section 80CCD (2) is also mentioned in these documents.

Out of the 12% EPF contribution made by the employer, 8.33% goes to the Employees’ Pension Scheme, while the remaining 3.67% goes to the EPF account. However, EPS contribution can be a maximum of Rs 15,000 per annum or Rs 1,250 per month. Any contribution above it will go to the EPF account. Both the EPF and EPS amount contributed by the employer are considered while calculating the Rs 7.5 lakhs limit. Besides, the employer’s EPF (and EPS) contribution operates under the individual limit of 12% of salary, beyond which it is taxable.

Calculating the Taxable Portion

Rule 3B of the Income Tax Rules, 1962 describes the process of calculating the interest and dividend on the employer contribution beyond Rs 7.5 lakhs. Its formula is,

TP = (PC/2) *R + (PC1+TP1) *R, where,

  • TP is the taxable perquisite,
  • PC is the total employer contribution to EPF, NPS and superannuation fund minus Rs 7.5 lakhs,
  • R is the interest earned/average opening and closing balance of the fund,
  • PC1 is the excess contribution made in previous years, and,
  • TP1 is the interest on excess contributions earned in previous years.

Employers must determine the taxable perquisite on excess contributions, withhold taxes on such perquisites, and report the same in Form 16 and Form 12BA.

Needless to say, these tax implications will mostly affect people with high basic salaries. Finally, as the taxpayer, you must report the excess employer contribution and the taxable perquisite arising out of it in your Income Tax Return (ITR). Select the ITR form carefully, depending on your sources of income during the year, to avoid Income Tax notice

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